Student Housing: Catch the Wave

Developers, investors and managers can win at the student housing game—if they play at the varsity level

Student housing has come a long way from the bleak dorms of bygone days, or the meager off-campus options that were little better. Today, in many cases, student housing rivals market-rate spa communities in their array of amenities and cutting-edge style. Further, they enjoy generally strong overall occupancy and the prospect of growing rental rates, as college enrollment continues to increase.

But student housing does have a dark side.

Every summer a typical student housing community loses about 70 percent of its residents, leaving a ghost town behind. Further, there’s virtually no such thing as year-round marketing; it’s do-or-die to lease up by September, and if sales reps lose that window it can be a long, cold winter and spring.

And, last but certainly not least, residents are youthful, high-spirited and sometimes rambunctious, presenting an array of unique management and damage-control challenges. In short, student housing is not for the faint-of-heart investor or management company.

“The student housing business is a very different operational model than traditional market-rate apartments,” says Jack Kern, managing director with Kern Investment Research and founder of the National Student Housing Council. “I wouldn’t recommend it for someone with no experience, or an organization that isn’t staffed properly to manage it. It takes a real level of skill and understanding to do student housing successfully.”

Kern notes that students—not to mention their parents—can offer myriad challenges to management. “A company has to instill a certain culture and set of values in the building, so recruiting the right staff and [having a consistent] message is much more important here,” Kern says. “It’s much more people-intensive than market-rate communities typically are. If an investor or operator thinks just having firm leases and written rules is going to create order, they’re usually surprised.”

Investors are watching

Student housing is complicated by the wide variety of product type, ranging from small four-unit buildings to high-rises. Investors who develop communities off campus face financing structures much like market-rate communities. On campus, developers can strike a wide variety of partnerships with the educational institution, including joint financing and management deals.

Despite its complexity, though, student housing seems to be gaining investor attention. The enrollment declines of 2006-2009 are reversing themselves.

According to the Chronicle of Higher Education, this year will see 18.6 million students enroll in college, up slightly from the 18.4 million that showed up on campus last year. While the growth is relatively slow, it’s steady, and it is expected to increase to 19.2 million by 2013, and 20 million by 2017. Some of this growth may be due to the lingering effects of the poor job market, as students stay in school to earn advanced degrees, but there are also other factors at work.

In addition, some investors see rents as virtually guaranteed by parents, so as demand rises along with enrollment there is the opportunity for decent financial returns. The product also seems to be fairly recession-proof; no expert interviewed was aware of any student housing community in the country that is in foreclosure.

One company seeing strong opportunity in student housing is The Preiss Company. Going into 2010 with about 10,000 beds in its portfolio—student housing’s common leasing unit is the bed/bedroom, rather than the apartment—the company made the decision to grow by 3,500 beds this year.

“But it now looks like we’ll have achieved that by the end of April 2010,” says Donna Preiss, president. “In the past three months, we have been 93 percent leased for the fall, and have realized just under 4 percent rental income gain.”

Upgrades they’ll pay for

Student housing tends to rent at a premium compared with conventional apartment communities. Consider a four-bedroom apartment with four students paying $500 per month each. That $2,000 monthly rent may be as much as 30 percent higher than the apartment norm for a particular geographic area.

Preiss, however, says rental rate growth isn’t coming so much from the normal pressures of supply and demand; instead, she actually sees rental rates remaining flat this year. Consequently, Preiss works to offer the kind of upgrades students will pay for, even during an economic downturn. For example, she’s found that the installation of vinyl plank flooring in place of carpet adds enough panache to an apartment to realize a $20-per-month premium per bed. Students also will pay $10 to $15 more per bed for VIP parking, or for a unit closer to the front where the university’s bus makes it pick-ups.

Besides increasing enrollments across the country, Preiss sees other promising trends. Currently, she estimates, only about 25 percent of the existing stock of student housing consists of purpose-built communities; the rest are houses, duplexes or conventional market-rate communities.

“But we’re finding that each year there’s a migration from conventional to purpose-built communities,” Preiss says. For her that means multi-bedroom communities with lots of recreation facilities, lavish swimming pools and generously sized activities rooms.

“Further, fewer and fewer students are living on campus,” she points out, noting that the University of Texas, for example, has an enrollment of about 50,000, but has room for only 6,500 students in campus dorms.

While student housing occupancy tends to be fairly robust, there are exceptions, for a variety of reasons. According to Real Capital Analytics, student housing in the Northeast enjoyed an eye-popping occupancy rate last year of 100 percent, while in the Midwest, occupancy was 96 percent. However, elsewhere in the country overbuilding or the impact of the recession has dented occupancy, which was just 88 percent last year in the West, and a paltry 71 percent down South.

“The expectation of enrollment growth through the country materialized in some schools but not in others,” says Rafael Figueroa, president of Collegiate Development Services. “Also, while you don’t have the peaks and valleys that market-rate communities have, you can’t increase rents unduly, even when the economy is going well.”

Figueroa feels that the student housing market will continue to grow, steadily and surely. For one thing, women are attending colleges in greater numbers, and it’s not uncommon to find the gentler sex making up 60 percent of a school’s enrollment. But again, this is a trend that is taking years to develop.

Tight market conditions

In some geographic areas, it’s the barrier-to-entry that helps keep occupancy high. Thus, for the investor looking to add to a portfolio, urban areas with fewer development options “are definitely your best bet at this point,” says Alex Hodara, owner of Hodara Real Estate Group, a student-owned brokerage firm in Boston.

Hodara primarily serves the Boston University area with multi-room houses or small apartment buildings. Such an urban area, with limited housing options, can “create a bubble” and benefit from high occupancies and decent rent growth, he says.

For Hodara, such an economy, combined with a high barrier-to-entry, has meant investments that retain their value even as rental rates remain relatively high. He brokered the sale of one property last summer for $1.1 million, three years after it had been purchased for $1.2 million. Another recent sale last September for $910,000 improved on the 2004 purchase price of $700,000.

But Hodara, like many others in the field, is mindful of the industry’s pitfalls.

“Stuff goes wrong every week,” he says. “You have to be actively involved in the investment, or have a really good property management company. College kids party, so you need to create incentives for the students not to ruin the house.”

Besides recommending the hiring of strong, talented management and incentivizing them to keep a lid on things, Hodara also imposes high security deposits on students, which tend to indemnify and/or limit property damage.

His approach typifies the complexity—in financing, management and marketing—that student housing offers to owners.

“The economics of these projects are, you invest money for a fair return over a long period of time,” says Figueroa. “And if you’re willing to do that, you’ll be okay. If you’re looking for large, quick returns, I’d recommend you invest in shopping centers or commercial buildings instead.”

To comment on this feature, email Diana Mosher at dmosher@multi-housingnews.com.