As a developer and real estate investor, one of the first things you need to understand is the price per square foot sellout of comparable properties, or “comps” (or price per square meter if you are outside of the US)
As a developer and real estate investor, one of the first things you need to understand is the price per square foot sellout of comparable properties, or “comps” (or price per square meter if you are outside of the US)
The reason why developers and contractors tend to gravitate towards pricing on a square foot basis is the simplicity for estimating profits and costs, in a fair and sensible way that can be applied across many projects. A few things to keep in mind here are that the price per square foot sellout can vary in a unit of similar quality if it is only a few neighborhoods over from the comparable properties you are basing your pricing off of.
Similarly, the cost per square foot can vary depending on the inclusion of garage, basement or attic space, the type of construction, and what market you are building in, with different geographic regions having different construction costs, depending on the availability of certain materials in your area and the differing cost of labor in different markets.
The big thing to remember is that no matter how nice, trendy, and architecturally magnificent your property is, if you’re spending crazy amounts of money on opulent design or amenities, you better be sure there are properties renting or selling for prices that justify your budget.
That’s the most obvious example, but things can get trickier than that. You might be in a hot market, but if you don’t study the comps properly, you could end up building oversized units that are incapable of obtaining the per square foot pricing of their smaller counterparts.
Here are a few steps to understanding the importance of comps in real estate investment and development:
The reason why developers and contractors tend to gravitate towards pricing on a square foot basis is the simplicity for estimating profits and costs, in a fair and sensible way that can be applied across many projects. A few things to keep in mind here are that the price per square foot sellout can vary in a unit of similar quality if it is only a few neighborhoods over from the comparable properties you are basing your pricing off of.
Similarly, the cost per square foot can vary depending on the inclusion of garage, basement or attic space, the type of construction, and what market you are building in, with different geographic regions having different construction costs, depending on the availability of certain materials in your area and the differing cost of labor in different markets.
The big thing to remember is that no matter how nice, trendy, and architecturally magnificent your property is, if you’re spending crazy amounts of money on opulent design or amenities, you better be sure there are properties renting or selling for prices that justify your budget.
That’s the most obvious example, but things can get trickier than that. You might be in a hot market, but if you don’t study the comps properly, you could end up building oversized units that are incapable of obtaining the per square foot pricing of their smaller counterparts.
Here are a few steps to understanding the importance of comps in real estate investment and development:
Price per Square Foot Sellout vs. Cost per Square Foot for Construction:
Price per Square Foot Sellout vs. Cost per Square Foot for Construction:
Why is this important?
To give a rough idea of why this is an important element, say that you have researched and learned that the average cost of construction in your area for standard, but high-quality new construction is $200 per square foot, with an additional $15 per square foot in soft costs (all associated costs that are not directly related to physical construction).
You then find out that there are several submarkets in your targeted area, with price per square foot sellouts for new construction units ranging from $450 per square foot to $850 per square foot.
Depending on how low you are able to acquire the properties for, you know right away to steer towards the higher price per square foot sellout neighborhoods, as your construction costs already pack a solid punch to your bottom line. You can’t afford to build in areas with lower price per square foot sellouts.
To give a rough idea of why this is an important element, say that you have researched and learned that the average cost of construction in your area for standard, but high-quality new construction is $200 per square foot, with an additional $15 per square foot in soft costs (all associated costs that are not directly related to physical construction).
You then find out that there are several submarkets in your targeted area, with price per square foot sellouts for new construction units ranging from $450 per square foot to $850 per square foot.
Depending on how low you are able to acquire the properties for, you know right away to steer towards the higher price per square foot sellout neighborhoods, as your construction costs already pack a solid punch to your bottom line. You can’t afford to build in areas with lower price per square foot sellouts.
Street-by-Street Pricing:
Street-by-Street Pricing:
As alluded to above, when you want to analyze comps you have to be very sensitive to the fact that pricing can be completely variable over tiny geographical distances. Sometimes, “across the bridge,” “across the tracks,” or even “two blocks down” are a completely different world in terms of real estate values.
A great way to get in tune with the street-by-street differences, and be sure you aren’t using incorrect comps for your neighborhood, is to use map based searches for similar sold or rented properties for the units you are proposing. For example, if you were looking to develop a condominium building with five 1000 square foot, 2 bedroom units, I would use MLS or a similar real estate database to perform a targeted search.
As alluded to above, when you want to analyze comps you have to be very sensitive to the fact that pricing can be completely variable over tiny geographical distances. Sometimes, “across the bridge,” “across the tracks,” or even “two blocks down” are a completely different world in terms of real estate values.
A great way to get in tune with the street-by-street differences, and be sure you aren’t using incorrect comps for your neighborhood, is to use map based searches for similar sold or rented properties for the units you are proposing. For example, if you were looking to develop a condominium building with five 1000 square foot, 2 bedroom units, I would use MLS or a similar real estate database to perform a targeted search.
The criteria, which are not based on any exact science, would be units sold with 2 bedrooms, 850-1150 square feet within the past twelve months, built or renovated within the past two years. The MLS for our market allows you to zoom in to your property’s address, then draw concentric circles or other shapes of sizes you choose to visually display the results that match your search criteria. I could draw three circles around my property: one with a .5 mile radius, one within a 1 mile radius, and one within a 1.5 mile radius.
Maybe I saw some enticing numbers within the 1.5 radius, but I know they are misleading as the result within .5 miles are lower in value on a per square foot basis. Please note that the timeframe in which units were sold, in this example 12 months, as well as the radiuses for comp searches, may need to be expanded based on the volume of sales and density in your area.
The criteria, which are not based on any exact science, would be units sold with 2 bedrooms, 850-1150 square feet within the past twelve months, built or renovated within the past two years. The MLS for our market allows you to zoom in to your property’s address, then draw concentric circles or other shapes of sizes you choose to visually display the results that match your search criteria. I could draw three circles around my property: one with a .5 mile radius, one within a 1 mile radius, and one within a 1.5 mile radius.
Maybe I saw some enticing numbers within the 1.5 radius, but I know they are misleading as the result within .5 miles are lower in value on a per square foot basis. Please note that the timeframe in which units were sold, in this example 12 months, as well as the radiuses for comp searches, may need to be expanded based on the volume of sales and density in your area.
Design Quality, Amenities, Parking:
Design Quality, Amenities, Parking:
This one is perhaps a bit obvious, but there are still some elements you might overlook here. Comps give you a great idea of how much you should be spending on certain design and construction elements. If you are in a very expensive neighborhood, you will need to pay close attention to the quality level of the tile, appliances, lighting fixtures, and other finishes of the competition.
Maybe these design concerns aren’t relevant to your market, but there are other things to consider. Say you are renting in a lower income area where comparing design is probably a waste of time. As long as the units are in proper working order and in good shape, they will rent for appropriate rates. Even here you need to use a fine toothed comb to compare and contrast your comps.
Say you assumed you could rent a vacant 3 bedroom unit for $1500 based on a similar comp you researched. If you aren’t careful, you might forget to note that the comp had off-street parking, whereas your building has no parking, and the market determined there was additional value in the parking. Now you can’t rent for the amount you had projected because you did not discount the comp’s rental rate to account for this difference.
This one is perhaps a bit obvious, but there are still some elements you might overlook here. Comps give you a great idea of how much you should be spending on certain design and construction elements. If you are in a very expensive neighborhood, you will need to pay close attention to the quality level of the tile, appliances, lighting fixtures, and other finishes of the competition.
Maybe these design concerns aren’t relevant to your market, but there are other things to consider. Say you are renting in a lower income area where comparing design is probably a waste of time. As long as the units are in proper working order and in good shape, they will rent for appropriate rates. Even here you need to use a fine toothed comb to compare and contrast your comps.
Say you assumed you could rent a vacant 3 bedroom unit for $1500 based on a similar comp you researched. If you aren’t careful, you might forget to note that the comp had off-street parking, whereas your building has no parking, and the market determined there was additional value in the parking. Now you can’t rent for the amount you had projected because you did not discount the comp’s rental rate to account for this difference.
Walkability & Access to Transportation:
Walkability & Access to Transportation:
This is an extremely important point in most markets, though the importance level can vary depending on the location. In certain markets, there is no public transportation available, with major commercial corridors more or less inaccessible without access by car.
In those places, walkability is still extremely important, and mixed use or other high density developments in commercial areas will have an extreme advantage, but the majority of developable land will be left out of this conversation. In higher-density areas, like where we build most of our projects, this is an extremely important consideration and can alter the rental rates or sales pricing for our units.
To give you an idea, if we had potential project that was a 15 minute walk from the subway and we saw a nearby comp that was a 4 minute walk from the subway, we would have to be mindful of the fact that their location may have afforded them higher per square foot rates than we may be able to achieve. Perhaps they are still a good comp when compared to other options, but keeping an eye on this and being aware that it affects your projections is important.
This is an extremely important point in most markets, though the importance level can vary depending on the location. In certain markets, there is no public transportation available, with major commercial corridors more or less inaccessible without access by car.
In those places, walkability is still extremely important, and mixed use or other high density developments in commercial areas will have an extreme advantage, but the majority of developable land will be left out of this conversation. In higher-density areas, like where we build most of our projects, this is an extremely important consideration and can alter the rental rates or sales pricing for our units.
To give you an idea, if we had potential project that was a 15 minute walk from the subway and we saw a nearby comp that was a 4 minute walk from the subway, we would have to be mindful of the fact that their location may have afforded them higher per square foot rates than we may be able to achieve. Perhaps they are still a good comp when compared to other options, but keeping an eye on this and being aware that it affects your projections is important.
Market Saturation & Sales Volume:
Market Saturation & Sales Volume:
Another thing to keep in mind when researching comps is market saturation. Say you are building a 900 square foot, 2 bedroom units. If you see sales at your targeted price per square foot level in your area, you might be afraid. But what if you are building 15 of these units, and there are only 2 or 3 sales of this unit type in the past year?
These are the type of things you need to be careful of. The volume of sales in your market is important and you can’t flood the market with more units than it can handle. This is also why, even if it might pencil out to be more economical to build 2 bedroom units for your market, it’s not the worst thing in the world to include a couple 1 and 3 bedroom units as well.
Another thing to keep in mind when researching comps is market saturation. Say you are building a 900 square foot, 2 bedroom units. If you see sales at your targeted price per square foot level in your area, you might be afraid. But what if you are building 15 of these units, and there are only 2 or 3 sales of this unit type in the past year?
These are the type of things you need to be careful of. The volume of sales in your market is important and you can’t flood the market with more units than it can handle. This is also why, even if it might pencil out to be more economical to build 2 bedroom units for your market, it’s not the worst thing in the world to include a couple 1 and 3 bedroom units as well.
