REAL ESTATE - Homing in on Profits

Developers are delivering stable returns with workforce housing.

Developing workforce housing may not be as sexy as putting up luxury condos. But at a time when demand is drying up at the top end of the housing market, apartment buildings aimed at middle-income residents are proving to be a resilient investment. “There is huge demand going unmet,” says Robert Turner, managing partner of Beverly Hills, Californiabased Canyon Capital Realty Advisors, whose workforce housing projects have delivered annual returns of 15 to 20 percent. “Whatever you build, you are going to sell.”

Workforce housing is generally aimed at households with earnings of 80 to 200 percent of a region’s median income and is distinct from the low-income or subprime sectors. Most occupants are critical service providers such as teachers, police officers, retail sales workers, firefighters and nurses, who are finding it increasingly difficult to afford suitable housing. A recent study by the National Association of Home Builders’ Housing Policy Group, for instance, concluded that these kinds of workers can no longer afford homes in more than half of the census tracts in the 25 largest U.S. metropolitan areas.

“The impact is pushing workers out to the edge of suburban areas, increasing commutes and making it harder for businesses and schools to recruit,” says John McIlwain, a senior resident fellow in housing at the Urban Land Institute, a Washington-based commercial real estate industry group. “The shortage is worse along the coasts but is growing almost everywhere else.”

There is just a handful of real estate developers that target workforce housing. Canyon Capital, which has $11 billion in real estate assets, has a long-standing venture with former basketball great Earvin (Magic) Johnson to revitalize urban areas with new development -- including workforce housing -- in cities like Atlanta, Baltimore, San Diego and Washington, Phoenix Realty Group, based in New York, has a $1.5 billion real estate portfolio, of which 80 to 85 percent is concentrated in workforce and other affordable housing projects. Another top player is New Boston Fund, a firm that manages the $200 million Urban Strategy America Fund, which is dedicated to workforce housing.

The sector is more resilient to economic cycles than many other types of real estate investments, contends Phoenix Realty president Keith Rosenthal. “We are building for a population already there -- not one that will hopefully come,” he says.

Among pension funds, major backers of workforce housing projects include the California Public Employees’ Retirement System, the New York City Employees’ Retirement System and the San Diego County Employees Retirement Association. But don’t expect these investors to accept lesser returns for a mandate just because of its socially responsible dimension.

“Our investors have a fiduciary responsibility to make money,” says Canyon Capital’s Turner.

CalPERS, for one, has been investing in affordable housing for more than ten years through its California Urban Real Estate program, which has returned 20 percent annually since inception. Through the program, CalPERS has invested more than $4.2 billion to redevelop real estate, including housing, in urban neighborhoods in California’s major metro areas.

Densely populated urban areas offer the best prospects for affordable housing developments, but there are risks. For instance, when developers convert existing buildings into new housing, as is often the case in this sector, they still must obtain zoning permits -- a process that can drag on. To speed the process, Canyon works closely with city governments to reduce the wait time. Workforce developers can also negotiate with a city to increase the number of units that are permitted on a piece of land, a move that can improve profitability.

Workforce housing often has a dramatic social impact on communities. Through its first fund, Canyon made 13 investments totaling $1.25 billion. It also created 9,500 construction jobs and 4,000 permanent jobs.

“If half of the jobs we create with the urban fund stabilize a household with a child, what is the price tag on that?” says Turner. “Our primary responsibility is to make money, but you can also have a profound impact on families.”

Phoenix Realty’s Rosenthal concurs. “For a lot of the people, this is the first home they own,” he says. “There is an exuberance to being a first-time home buyer, and there is a feeling of celebration when people move in.”