58% IRR: A mobile home park Opportunity Zone case study

We acquired our?Meadowlands Estates Opportunity Zone?manufactured housing community for $2,800,000 in 2019, and we just refinanced at a $6,350,000 valuation.?If we sold today, we would generate a 58% IRR (before tax benefits).??

We did a ton of heavy lifting to create value for our Investors on this deal while also creating a vibrant new affordable neighborhood for our Residents.?I’m deeply proud of our team’s work on this deal, and I want to share it as a case study.

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Sourcing the opportunity

+ Totally off-market. We sourced this deal "boots on the ground." No brokers involved.?Yoel and I closed the deal over dinner with the Glaspey family in Yakima, WA. The Glaspeys were pioneers in the Yakima Valley.?Their?family had owned this land for over a hundred years.

+ Yakima is the kind of under-rated tertiary market that Three Pillar Communities?loves to invest in: strong housing demand driven by non-cyclical industries, with little new housing supply, and not too many investors fighting for deals and driving prices up.??Economic growth in Yakima is driven by?agriculture?(especially apples and hops),?specialty manufacturing?(e.g., aerospace, plastics), and education and?healthcare, which real estate investors refer to as?"eds and meds"?because they are such an important economic engine?(Yakima has 3 hospitals, 4 colleges, and a new medical school).??Yakima's apartment vacancy rate was below 2% when we were analyzing the deal in 2019.

+ And the icing on the cake...Meadowlands is located in a federally-designated Opportunity Zone, conferring major tax benefits to our investors.?More on that later.

The opportunity we saw

+ We saw a rare "blank canvas" where we could create a contemporary manufactured housing community in a strong tertiary market with high housing demand.

+ The Glaspeys had built the park infrastructure in the 1990s (for 78 units), but had only brought in 25 homes. We were confident that the high vacancy at Meadowlands was due to the prior owner's management choices and financial constraints, and not due to lack of market demand.??

+ We saw a rare opportunity to meet the investment requirements for a Qualified Opportunity Fund, which would add rocket fuel to our investors' after-tax returns.

+ We knew we would have to fill 53 vacant lots with new homes.?Fortunately we had built the capability to do this work in-house. ?We are licensed manufactured home dealers in six states, we have multiple credit lines for this purpose, and we have multiple team members working on manufactured home procurement, installation, and sales.

+ We knew we wanted to sell all of our new manufactured homes to the end customers, rather than renting them out as “park owned homes."?Selling homes is a lot harder than renting homes, and has a slower sales cycle, but it results in affordable home-ownership and ensures lower tenant turn-over in the long run. ?

The structure of the buy

+ $2,800,000 purchase price

+ We negotiated seller-carried financing for a $2,050,000 loan (73% of the purchase price), at an attractive rate, with interest only payments, for up to 3 years.

+ In exchange for the Glaspeys giving us seller-carried financing, we agreed to cap rent increases for certain residents (whose rents were 50% below market) as long as the seller-carried loan was in place.

The heavy lift – AKA how we turned an old cow pasture into a vibrant new affordable neighborhood

+ Refining the home spec to meet the market.?We experimented with single-wides and double-wides, big floor plans and small floor plans, fancy kitchens and utilitarian kitchens.?By listening to customers we identified the optimal spec for this community: a 1500 square foot home, 3 bed/2 bath, with a few "wow" features in the kitchen (like pendant lights and a farmhouse sink), and a basic finish level in the rest of the home.?

+ Experimenting with different sales models.??We first tried listing the manufactured homes with a local realtor.?We hired a bilingual sales lead and experimented with Spanish-language advertising. We did direct outreach to local realtors to educate them about manufactured homes and offer bonus commissions.?Through testing and iterating, we finally developed a smooth, repeatable sales model.

+ Dialing in a process with our set-up contractor.?While we originally planned to work with multiple set-up crews to ensure enough sale-ready inventory, we eventually dialed in a great process with?a single contractor partner, to the point where construction became "plug and play."?Huge shout-out to Glen and Loren for rocking our home set-ups!

+ Performing infrastructure upgrades in-house.?? We realized that Glen and Loren were highly efficient at setting homes on “prepped” lots, but they were constantly getting bottle-necked by underground infrastructure issues.?They would have to search for utility hookups, and if they couldn’t find them, they’d have to stop work, fire up the excavator, and spend a day digging trenches to extend water and sewer lines to the home site.?To solve this once and for all, we sent one of our employees (who is an expert heavy equipment operator) to Meadowlands for a month to knock out all the underground utility extensions at once.?We got the work done at a fraction of the cost of paying a contractor, and it enabled Loren and Glen to hit a timely, predictable home set-up cadence.

+ Finally achieving the "flywheel effect."??Our first ten home sales were an uphill battle.?Customers hadn't heard of Meadowlands, and they weren't familiar with our product (i.e. new manufactured homes in a land-lease community). The next ten home sales got easier.?And then, at a certain point...the homes started selling themselves.?Word got out about the quality of our community, happy residents told their friends, and suddenly we were fielding inbound leads.??

+ Raising our home sale price in response?to rising?input?costs.?During COVID, our cost to procure manufactured homes went up around 30% due to labor shortages and supply chain disruptions.?We raised our sale prices accordingly, and fortunately we have had no problem selling our homes in the $140k range.?This is due to 1) sales momentum for this community, based on happy customers telling their friends, and 2) overall strength in the housing market.?With housing prices up across the board, manufactured homes remain one of the best values in the market.

The refi: Monetizing the value we created

+ We refinanced Meadowlands in December 2021 at a $6,350,000 valuation, returning capital to our investors.?At the time of the refi we were 73% occupied.??

+ We were thrilled to lock in five years of interest-only debt at 3.25% (fixed rate), with a flexible prepayment structure.

+ The additional homes needed to achieve 100% occupancy are all in the pipeline, and we plan to achieve 100% occupancy by year-end 2022.

+ By refinancing the Glaspeys' seller-carried loan, we retired the rent increase covenants that we had agreed to maintain as long as the loan was in place.?We have now raised rents for "legacy tenants" from $281 per month to $475 per month.?This rent increase was crucial.?Charging market rents is necessary to ensure the viability of our industry and to ensure that more manufactured housing investors can build new affordable neighborhoods, like we have done at Meadowlands.?Our new $475 rents are still extremely affordable for working families, using any affordability metrics you might care to use. And as we expected, we have had zero resident move-outs and strong ongoing demand.

The social impact we created

+ Increasing the supply of affordable housing:?By year-end 2022, we will have created 53 new units of affordable housing in a market that sorely needs it.

+ Creating a vibrant new affordable community:?We have essentially created a brand new neighborhood.?Neighbors help their neighbors.?Kids ride bikes in the streets. Everyone is a home-owner and is invested in the community.?Research shows that when lower-income people have housing stability, community, and connection, there is a direct positive impact on health, wealth, and educational outcomes.

+ Closing the racial wealth gap:??In Yakima, many of our new homebuyers are either?Hispanic?(Latinos now make up more than half of Yakima County's population) or members of the?Yakama Tribal Nation.?We are proud to be helping historically under-represented homebuyers build wealth through homeownership.

+ Fighting climate change through efficient factory-built housing:?Our homes are built efficiently, in a central factory location, with minimal material waste.?We use R-22 insulation and low-E double-pane windows.?Thirty-year shingles and "never fade" siding ensure that our homes will last for decades, reducing waste from replacement.

Opportunity Zone tax benefits – and estimated returns for our investors

+ If we sold Meadowlands today (at our $6,350,000 appraised value) we would achieve a 58% gross IRR.? Not bad.

+ However, if we sold today, our investors would have to pay taxes on their capital gain.

+ This is where the magic of the Opportunity Zone investment comes into play.?If we hold Meadowlands for at least ten years (which we plan to do anyways – because we have a multi-decade investment strategy), qualified investors will owe zero capital gains tax upon sale.?Additionally, on the front end, our investors already deferred and reduced the tax they would have owed on the capital gains which they invested into the Meadowlands deal.?

+ In aggregate, we projected that our Opportunity Fund investors could boost their returns by as much as 19% through the tax savings provided by the Qualified Opportunity Zone.

+ For more detail on how the Opportunity Zone tax treatment works, check out this quick overview we put together in 2019:?Meadowlands Opportunity Zone - Summary of Tax Benefits.

In conclusion

This deal has been a grand slam both for our Residents and for our Investors.

We have multiple deals like this in our pipeline, and we look forward to replicating this manufactured housing playbook in other locations.

I hope this has been a useful case study. If you have questions about any of this, or if you’re an Accredited Investor and you want to invest in Three Pillar Communities’ next mobile home park fund, get in touch with us here: https://www.threepillarcommunities.com/mailing-list?

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Yours in manufactured housing,

Daniel and Yoel

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Connect with me on LinkedIn:?https://www.dhirubhai.net/in/daniel-weisfield-33940613/

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