In this "Brooklyn Lodgers: 78 South Third St., Brooklyn, NY" case study, of Brooklyn Lodgers, Nathalie and Hugo Parizat, a young couple, are evaluating if they should start a real estate development project to meet two objectives: 1) invest in real estate to stop paying rent, 2) obtain an acceptable rate of return on equity.
Charles F Wu, Jackie Bereiter, Signe Conway
Harvard Business Review (219022-PDF-ENG)
August 02, 2018
Case questions answered:
- Making a real estate investment – investigation, assessment, and risk
a. Market – strength and weaknesses
b. Property specific strengths and weaknesses or benefits and risks
- Understanding the sources and uses of funds and the implication of financing on the project
- Assessing performance and cost
- Determining basic return and metrics
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Case answers for Brooklyn Lodgers: 78 South Third St., Brooklyn, NY
This case solution includes an Excel file with calculations.
Introduction – Brooklyn Lodgers: 78 South Third St., Brooklyn, NY
In the case of Brooklyn Lodgers, a young couple is evaluating if they should start a real estate development project to meet two objectives: 1) invest in real estate to stop paying rent, 2) obtain an acceptable rate of return on equity.
After careful research of New York housing market, Nathalie decided to focus on South Williamsburg instead of North Williamsburg for four reasons: 1) less heavily developed South Williamsburg was within her acquisition price range, 2) people were paying “what Nathalie considered to be above market rents,” 3) lack of development in South Williamsburg meant that there was lack of supply in the market, 4) Williamsburg was now viewed as “quite safe” place to live.
Nathalie faced some challenges when she was finding the right property for her project due to her lack of experience. She was frequently shown second and third-tier opportunities. In the end, Nathalie decided on 78 South Third St. located in South Williamsburg.
The followings are reasons behind Nathalie’s investment thesis for purchasing, renovating, and renting the property to meet her objectives:
- The property is currently not “utilizing its entire allotted buildable square footage,” and hence the purchase price of $312 a square foot translates into $200 a square foot.
- Easy access to public transportation will be attractive to tenants who commuted to Manhattan.
- The housing market is showing signs of recovery, and hence there is great potential for capital gain.
- Renovating the property will “appeal to the newer demographic,” and higher rent can be charged.
The young couple is trying to double-check their assumptions and analyses before making the final decision. Below, I have summarized my recommendations based on my qualitative and quantitative analysis.
- Purchase the property but reconsider the option of renovating until Hugo completes business school and Nathalie is not the only source of income (that way she still has the opportunity to do a value-add project in the future)
- Finance the purchase of 78 South Third St. by utilizing the loans from both Apple Savings and seller
- Also, Nathalie should consider getting a part-time job to support her family.
Williamsburg & 78 South Third St.
I recommend Nathalie to purchase the property because of its favorable demographic characteristics, location, and price. Some demographic characteristics of Williamsburg included increasing median household income, increasing unemployment rate, lowest homeownership rate (when compared to Manhattan and Brooklyn), and decreasing crime rate.
Increasing the unemployment rate may seem unfavorable, but I believe it is a temporary effect from the financial crisis. Increasing median household income translates into a more financially stable tenant for Nathalie, and the lowest homeownership rate means more demand for rental units.
The decreasing crime rate in Williamsburg also presents a favorable environment for residential units; however, it is worth noting that serious crime per 1000 inhabitants in Williamsburg only decreased by 7% from 2005 to 2010, and serious crime per 1000 inhabitants was higher than Brooklyn in 2010 (Exhibit 6).
Source: U.S. Census & HBS Case: Brooklyn Lodgers: 78 South Third St. Brooklyn, NY
The property is located in an area that has easy access to public transportation and is close to local entertainment venues such as Brooklyn Bowl in North Williamsburg. Also, an increasing number of restaurants are opening up in the neighborhood.
I believe these factors will not only address the needs of potential tenants but also play a significant role in the appreciation of the property in subsequent years. In terms of price, Nathalie was offered a price of $312 per square foot; however, the valid price per square foot, considering the maximum buildable space, was $200 per square foot. In other words, Nathalie will be buying this building at a bargain, and there is an excellent opportunity to capture the appreciation in property value as the housing market fully recovers in the future.
To sum up, Nathalie should…