By Jonathan Horn 6 a.m. May 3, 2014
With home values recovering from the Great Recession and the fix-and-flip market drying up, what’s a real-estate investor to do?
In Southern California, American Coastal Properties is going for the high end.
Instead of focusing on buying bank-owned homes from auction, fixing them and selling them for a gain, the five-partner group formed in 2012 buys older homes in affluent areas like La Jolla, Del Mar and Solana Beach, guts them, adds square footage and hopes to sell them for a gain. It’s a risky business that can reap hundreds of thousands of dollars in rewards, but also can bring unwelcome surprises that take a chunk out of any profit.
“This business is not for the faint of heart,” said Anthony Nanula, the group’s San Diego manager. Last month, American Coastal sold a home at 1330 Eighth Ave. in downtown that was built in 1920. The Irvine-based group bought the property for $720,000, restored it and closed a deal for about $1.825 million, a sale price they consider a success.
American Coastal Properties has about 12 projects in San Diego County and 30 in Southern California. Those add to the 50 homes already revamped and sold. The group also recently secured $50 million from Colony Capital and the Pritzker/Vlock Family Office to buy and redevelop single-family properties throughout coastal Southern California. That continues a big change from what founding partner Nick Sinatra originally did in 2009: buy homes at auction to fix and flip in the Inland Empire.
“We were purchasing properties at the trustee sales, buying from banks, fixing them up and reselling them,” Sinatra said. “That business sort of was getting squeezed out by some of the institutional people, so we started to look at adding more value through construction.”
The supply of homes to flip has dwindled since property values recovered from the Great Recession, leading to fewer foreclosures. In March 2010, there were 1,137 foreclosures in San Diego County. In March 2014, that was down to 142 homes, real estate tracker DataQuick reports. Without the high appreciation from a foreclosure, some investors shifted to renting out properties. Others like American Coastal buy, add on and sell for a gain.
“Value-add investors with the skills and resources to improve property will seek the highest return for their efforts,” said Mark Goldman, a loan officer and real estate lecturer at San Diego State University. “They cannot find as many low-priced houses in bad condition since the foreclosure inventory has dried up. So, higher-priced properties provide a better profit margin if they can be improved and placed back, in better condition, onto the market.”
That’s exactly what’s happening at 13721 Pine Needles Drive in Del Mar, where American Coastal Properties plans to list a 4,000-square-foot home this summer for more than $3 million. The previous owner accepted the group’s roughly $1.725 million all-cash offer, which was $75,000 below the asking price at the time, and well below the nearly $2.5 million asking price from a prior listing in August 2012.
“It kind of enabled us to actually make the numbers work,” Nanula said. “You can’t pay retail in this strategy, you’ve got to buy wholesale, or you’ve got to buy at a price that’s low enough that enables you, once you put your work in, to make a margin.”
The oceanview home, which to the naked eye looks like a new construction project, is getting roughly 700 additional square feet as part of a more than $500,000 investment by the group. It’s not always easy, however, as Nanula and the contractors saw when they started gutting the home, which hadn’t been updated in probably 30 years.
“You really don’t know what you’re going to find in these deals when you’re renovating a home until you’ve taken it apart,” Nanula said Tuesday, in the property’s driveway. “We started to dig into the wall over here and the entire wall just crumbled because there were no footers… that was a change order.”
Nanula said he’d consider the company’s success rate well above 50 percent. The group didn’t want to get into specific return goals, but Nanula said they are more along the lines of those of a traditional builder-developer. Industrywide, Nanula said those returns vary, but generally are 5 to 10 percent net income.
At the height of the fix-and-flip market, an investor could net 20 percent, said Goldman. As competition increased, a typical return went down to 10 or 12 percent, a percentage Goldman considers pretty high risk.
“You could find lead or asbestos, you could find out you have to get permits which cost time, plans and fees,” he said. “Renovation costs can easily be more than anticipated. Slow market increases holding-period costs. Prices are softening.”
Buying on spec
Nanula said it’s all about taking risk out of the equation. Focusing on the coast and buying off the Multiple Listing Service, like American Coastal did for the Del Mar home, is safer than buying at auction. Doing that is easier and less risky than what happened with the home they’re selling in San Marcos.
The group bought a property at 1640 Via Cancion on the steps of the El Cajon Courthouse last year for $538,000, sight unseen because it was fenced off, cluttered and guarded by five Rottweilers. What they didn’t know was that the property was listed as having 13,000 square feet of land, when it really had 130,000 square feet of land. Problem was, the home was in total disrepair, and it took five months to get the previous tenants off the property.
“We bought it on spec as much as you could buy a home,” said Nanula, a former New York state senator and comptroller of Buffalo who now lives in Poway.
That home, technically in unincorporated San Diego County, was taken down to its studs and rebuilt. Now, the property that abuts a canyon looks luxurious, with two master bedrooms, a three-car garage, a massive bonus room and a pool.
Nanula said Tuesday that it’s on the verge of being sold for $1.175 million, which is $75,000 less than what the company was asking in mid-February.
“The house is so unique we weren’t sure where demand would be, price-wise,” he said.
Coast is key
Despite low inventory, Nanula said the company hasn’t run into any roadblocks finding properties around Southern California. He said the group combs through the Multiple Listing Service listings, searches for off-market deals or obtains a property from a developer that hasn’t finished a project. When they identify one that could be a good investment, the group starts researching, and if all goes well, they could close in 30 to 60 days.
Looking ahead, Nanula said he sees the coastal high-end business model being successful for years. That’s because in places like Del Mar and La Jolla, where they currently have a project on Camino de La Costa, there won’t be much new construction, but people all over the world are willing to pay to live there.
“You can drive down these streets and around these neighborhoods and there’s candidate after candidate for this kind of work to happen. You’re not going to see a big tract development come into Del Mar; it’s really reclaiming homes that are older homes,” Nanula said. “We think we can build a robust business around kind of on an infill basis, coming in and either doing ground-ups or kind of reclaiming homes that are ready for a substantial renovation.”
This article originally appeared in the UT San Diego print edition and online at www.utsandiego.com on Saturday, May 3, 2014.