How did VareCo execute its biggest deal to date during the pandemic? Terrance joins us to talk about how a 41-unit apartment building in North Denver generated the most profit yet. Listen to the episode to learn how they did it, and what Terrance plans to do next.
Today we’re looking at a north Denver apartment building called Midtown Plaza that was VareCo’s most profitable deal yet. We purchased this property during the height of Covid in 2020 when other people were hesitant to do any deals.
This deal made me realize that just because the rest of the world is stopping or pausing because they’re afraid doesn’t mean VareCo needs to stop, too. While we did need to adjust some underwriting to be more conservative, we still did some great deals.
To hear all of the details of my conversation with Chris, check out the YouTube video or podcast.
Sourcing the Deal
I found this property in July 2020. During this time, things were very difficult and there was a lot of uncertainty and fear. Covid was raging, and it was a horrible time to get commercial property in Denver. Both debt and raising equity were difficult, and multiple people backed out of the deal between going under contract and closing.
The building had a lot of VA tenants, meaning the federal government was paying for them to live there, but the building was in bad shape. It’d recently lost its voucher because it failed inspection three times in a row. Units didn’t have hot water, heat, and there were holes in the roof.
The building was in a great north Denver area, just across the street from brand-new construction. I knew immediately that this would be a great deal, we just needed to get to the right terms.
Although the seller was motivated, we still did a lot of negotiating to finalize the deal. The seller owned the property for over 30 years, and though she cared about it, there was a lot of deferred maintenance because she didn’t have the capital to reinvest in the building.
During the inspection we found a host of issues including mold, roaches, and sewer problems. We were able to settle on a $400K concession. Brandon Kaufman of Kaufman Hagan Commercial Real Estate worked really hard on this deal. It’s good to have an experienced and confident broker in this environment who was able to control the deal and get it to closing.
Turning the Property Around
We closed in November 2020, and construction finished in September 2021. The LivLavender team did a great job leasing out the building—it only took them 10 weeks to get it fully leased up. The average pace of leasing is about eight units a month.
We underwrote the building very conservatively, as though covid would continue and conditions would remain unchanged. In the end, rents went for $200-$300 above pro forma, from an expected $1100 per unit to $1350 blended.
Deciding to Sell Earlier than Planned
The plan was to hold the building for three years, grow the Net Operating Income (NOI), and exit for $6.5MM. Since the building was performing really well, though, we got guidance from Kaufman Hagan that we could trade it at $8.8MM.
There was a lot of uncertainty going into the marketing of the building because that price point hadn’t been done in this area of Denver before. The main focus was on how to get the most qualified offers.
Kaufman Hagan launched an incredible campaign for the building that got thousands of online views, 30-40 showings, and 10 emailed offers. Five of the offers were over asking, and two of them offered over $9MM.
We settled at $9.1MM with nonrefundable earnest money and went under contract the second week of February 2022, closing in early April.
The net profit to our investors was 2.1x their original money in only 16-18 months. To date, this is the highest gross Multiple on Invested Capital (MOIC) and net MOIC return to investors for VareCo.
Strategy Going Forward
VareCo’s strategy is to pivot from buying dilapidated properties that are half vacant to buying more blue chip properties in good locations. Instead of renovating entire buildings, we want to do more cosmetic improvements.
Going into a recession, it’s important to focus on location and cost basis. Even in uncertain times, there are areas that will always have people wanting to rent: Cherry Creek, Wash Park, and Sloan’s Lake in Denver are solid locations. In the suburbs, parts of Englewood, Arvada, Lakewood, and Littleton are also good options.
Unlike industrial or retail spaces, residential buildings reset rent more regularly. This is an aspect that is actually helped by inflation, as rents will keep rising.
Granted, we can’t raise rents infinitely, which is why we have to be disciplined about where we invest. In the Denver metro area, there’s a general cap on two bedroom units at $1500 depending on the location. It’s possible to push rents higher, but by underwriting conservatively, we’re covered even if the sky starts falling.