"The Entrepreneur & His Banker"
Offering Insights into Financing and More
by Michael Mack
Posted May 11, 2008
Developers need money to do what they do best. Successful developers create strong, long-lasting relationships with the bankers whose backing does much of their projects' financial heavy lifting.
Entrepreneur Roberto Arista '96 is no exception. After graduating from the MIT Center for Real Estate in 1996, Arista formed a rewarding business relationship with Janet Spencer, now Senior Vice President of Stoneham Bank — so rewarding, in fact, that the two now regularly visit MIT/CRE to give students a glimpse of the developer-banker relationship.
Called "The Entrepreneur and His Banker," their presentation series is now in its 4th year. Mr. Arista and Ms. Spencer offered their latest installment on Friday, April 11th at to a standing-room-only crowd, detailing the Arista company projects, discussing the evolution of their working relationship, and providing a quick look at the mechanics of financing – both in good markets and in bad.
Evolution of Dakota Partners
Arista first began working with Ms. Spencer after forming Austin Development Group, a company he started after graduating from MIT/CRE. A successful joint venture with Emerald Development Group led to a merger between the companies in 2006, with the newly named Dakota Partners (based in Waltham) expanding its scope to include both developing and building. Larger than Austin Development, Dakota now includes four principals/shareholders, as well as a dozen employees, "largely on the construction side," Arista said. "Construction is more labor-intensive and requires more people."
Dakota focuses on residential properties – boutique projects of 20-40 units – in fairly densely populated areas. The company aims for an annual business volume of $20-25M/year, with 3-4 projects at any given time. "We don't look for huge projects," Arista said. "We want to stay just below the radar of the big guys – we stay competitive that way."
A Snapshot of Financing
The Arista companies' development projects have been financed with a combination of partner and private equity ranging from $250K to $1.5M, as well as bank loans ranging from $2M to $6M.
Asked how much Stoneham Bank might lend for a given construction project, Ms. Spencer said, "Stoneham is currently a $417M bank, and construction is a large part of our portfolio. Our current limit on lending is $6.2M to any one borrower, which could be for a single project or a combination of projects."
"The FDIC basically restricts banks to lending 20% of their net worth, so the size of the bank generally dictates the size of the project. Our biggest borrower right now is a commercial developer we've had a 30-year relationship with. He's sitting at $5M, but that's for multiple properties."
Asked if her bank is still financing new construction in the current bear market, she said, "We're still looking at new projects, but the number of developers now looking to do new projects is much smaller."
Dakota's Projects
Arista presented background on a dozen projects that his companies have been involved in. Generally they've been solidly successful – with profits running anywhere from $200K to $1M-$2M – but the current market downturn has brought exceptions.
"In one Somerville project," Arista said, "contamination was found in the earth below the development a month before we closed. We dug it out, which set us back about two months, and we found ourselves looking at a gaping hole."
The building had no plans for any permanent storage space for the units, so Arista and his team proposed what seemed an innovative strategy: rather than fill the hole with clean material, why not build a basement? "It'd create storage, add value, and raise the asking price."
The cost was 200K. Additional costs – based on advice from brokers who suggested "edgier" design touches to attract younger buyers – ultimately drove the costs up and the profits down.
Since then, units have been slow to move – only 10 of the 20 have sold or are under contract – which has opened the door to the rental market. "We've rented three units. The rents are $2500/mo, which is great, but they certainly can't carry the loan."
Recalling his team's decision to fill the hole with a basement, he said, "At any given time, you can only make the smartest decision you can given what you know, then live by it." He laughed, and perhaps recalling the ancient Chinese curse about living in interesting times, he added "It's a very interesting market."
Ms. Spencer said that Arista's condo projects aren't the only ones becoming increasingly tricky."More and more, banks are required to do a full project review on condo projects for secondary market purposes." she said. "To even consider a loan on a condo, the bank must now have records on file with all condo documents – budget, insurance, everything – which must be updated every six months.For any developer wanting to move condos, I'd suggest carefully thinking it through to make sure the project can be financed by the end buyers.
Moving toward Rentals
Largely through market pressures like these, Arista's company has begun shifting away from condos and into the rental market, even though it goes against their original intention. "When you create a company, you think you have the right formula, the right team…then everything changes," Arista said.
The recent market slump has made opportunities in the rental market more viable. "We hired a guy to find deals for us, and a year ago he told us about tax credit opportunities: low-income, for example, or historic properties, but we weren't listening. We kept saying, 'that's just not what we do."
Now with the bear market in full swing, they're listening. "Intently," Arista added. "Our new Maple Ridge Apartments project in Tyngsboro, MA has been showing important potential as a tax credit deal." According to Arista, the leverage on this and other tax credit deals is very low – "less than 50%. This is a 96-unit project – 4 apartment buildings of 24 units each. Low-income rents are $950/month, and market rents are $1350/month," he said. "But now we're considering making this 100% low-income because the numbers work. The budget for the project is $13M, and there are $7M in tax credits."
But like everything else, the tax credit world is changing too. "Corporations buy tax credits, and many corporations are banks. It's important for our company – any company – to adapt, whatever the original vision. Originally we focused on condos, but now we're looking more closely at 40Bs and tax credit deals."
Ms. Spencer offered background on the difficulties with condo development. "Since the housing bubble burst, the GSE's (Government Sponsored Enterprise groups, such as Freddie Mac and Fannie Mae) have totally changed the way they allow buyer financing on condos – they've gone backwards 15 years. If you have a single building with 50 units, the lenders (most of whom sell into the secondary market) will want a 51% presale requirement to be met before they'll finance end buyers. This will force developers to look to portfolio lenders to help end finance their projects, cutting down the availability of financing outlets."
She added, "The media has done a wonderful job of making it worse on the banking side – they're basically telling people not to buy."
Arista said he believed prices in this part of the country have largely bottomed out. "They may not rise anytime soon, but they won't fall because there's just not a lot of inventory out there. Mostly buyer hesitation."
He offered a typical example, "Just to show how crazy – which is to say, how rational – the market is… we had a buyer who loved a unit, was saying yes, yes, yes, all the way up to signing, but said, 'we're going to consult with our attorney before we sign.' Next day they called to say the attorney had asked, 'why are you buying now? Wait till next summer when prices are lower,' and the buyer backed out. That same buyer eventually bought: coming back months later and paying 20K less. That's what's happening."
Market Prospects
Asked to sum up the current market for the student audience, Ms. Spencer said, "I've been doing this at my bank for nearly 35 years. Everything is cyclical, everything comes back around. Just because it's not a good time now for real estate doesn't mean it won't be a good time a year from now. We look at our builders as long-term relationships. We work with them for years, so we want to help as much as we can."
Arista was also positive. "There are opportunities in every direction," he said. "Years ago a developer told me, 'I build high-rise towers in downtown Boston, and right now there's just no money in it. You know who's making the money? The guys converting brownstones in South Boston! They're making a killing!'
"Jan's right," Arista said, "the market is cyclical. We don't know if it'll be in six months, or in a year or two, but this too shall pass."
Michael Mack is a Cambridge-based writer.
