Category: Business

• Leadership is a great burden

  I went to bed last night watching President Biden’s address to the Canadian Parliament (full transcript, here.). And I woke up this morning to this Globe and Mail article about Canadian competitiveness. In it, Tony Keller talks about some of the things that are broken in this country (shockingly housing comes up), and compares Canada to Argentina (an example of too many bad decisions) and to South Korea (an example of many good decisions).

  All of this got me thinking about leadership.

  Leadership is a great burden. As a leader, people are looking to you for decisions, for direction, and for you to instil confidence. They are also scrutinizing your every word and action. And in today’s world, they are waiting to criticize you on social media and/or make a funny meme out of your most recent misspeak. As a developer, I get to interface with municipal politicians probably more than your average person, and I can tell you with confidence that it is a thankless job I would never want.

  I can only imagine having to constantly worry about your employment and what people are thinking. Given this incentive structure, I’m sure we’d all act accordingly. It is truly public, service. At the same time, I know that it is not only unproductive — but dangerous — to pander to just what is thought to be politically popular. And we have spoken many times before on this blog about housing and land use policies that may be popular, but aren’t at all effective — or worse, are counterproductive.

  What we should be demanding from our leaders are difficult decisions. These are the decisions that probably feel uncomfortable and that may require some personal sacrifice, but that are ultimately the right decisions for our collective long-term prosperity. It is about ambitiously deciding where we want to go and who we want to become, and then taking meaningful actions, however unpopular they may be, to get there.

  Don’t just tell me what I want to hear. Lead me. Push me. Be bold. In the end, we will respect you for your personal sacrifices and the difficult decisions you are making on our behalf. This is the great burden — but also the great opportunity — of leadership, and it behooves us to empower it. To borrow from Tony Keller, “there’s no reason we [Canada] can’t be the most prosperous and successful society on earth.”

  2023.03.25

• Lufthansa unveils new multi-seat layout in business class

  Maybe it’s my design background or maybe it’s the extreme discomfort in my legs, but usually when I’m on a plane I can’t help but think about redesigning the cabin interior. Of course, there are only so many options in economy when your femur doesn’t fit between the seats. However, in business class, where airlines actually make their money, the options are endless.

  Below is a redesign that Lufthansa just launched this spring. Co-created with Pearson Lloyd, the concept is based on three distinct travel experiences: calm, focus, and share. The idea here is that maybe you just want to sleep (calm). Maybe you just want to work (focus). Or maybe you want to work and/or hang out with someone beside you (share). And depending on what you’re looking for, your seat should reflect that.

  The result is 7 different seat types that are bookable depending on what “job you’re looking to hire it for.”

  

  

  It is about consumer choice instead of one size fits all. But I’m curious:

  • Were they able to maintain the same number of overall seats in business class, or are they betting on higher revenue per passenger because the seats are now better?
  • How does booking work? What happens if I really want “calm,” but the only available seat is “share”? And then what happens if my “share” neighbor is really talkative?
  • Has anyone looked at multi-seat arrangements in economy? Or is it a non-starter because you really need to squeeze femurs in order to make the math work?

  Lufthansa, if you’re reading this and you’d like me to do a thorough review of your new Allegris Business Class seating, I would be happy to accept a flight to Paris sometime this summer. Until then, you can all find more information about this new seating layout and the design process, here.

  Images: Pearson Lloyd

  2023.03.15

• The end of free money

  

  Tech analyst Benedict Evans — who has 175,000 subscribers to his weekly newsletter — has just published his big annual presentation about “what matters in tech?” This year’s is called “The New Gatekeepers.” And as is normally the case, he explores a number of macro trends that I think will interest many of you, even if you aren’t in or interested in the tech industry. To check it out, click here.

  2023.03.14

• Real estate developers are stupid

  Big Ben Myers of Bullpen Consulting doesn’t usually have strong opinions on Twitter (obviously joking), but I did see him respond to this tweet this morning:

  During significant downturns, developers can’t sell the units, and can’t get financing to build rentals. It has nothing to do with their intelligence. https://t.co/7G7n4B65CI

  — Benjamin 🐂✒️ (@benmyers29) March 5, 2023

  The assertion he is responding to is basically this: “developers are stupid because they tend to hold onto land during downturns, instead of building through them.” On some level, I think I know where this line of thinking is coming from. It’s the whole Warren Buffet philosophy of “being fearful when others are greedy, and greedy when others are fearful.”

  But what it ignores is development feasibility. Developers typically rely heavily on the availability of debt financing. First you need land financing in order to acquire the land, and then, once you have your entitlements, condominium pre-sales and/or any other requirements in place, you move onto a construction loan (which often “takes out” your land loan).

  Maybe you have deep enough pockets to fund everything with cash, but most of the time that is not the case. And so if these debt facilities are not available to you, then you are not building.

  The other part of this equation is that, during downturns, it can be harder to forecast your future revenues. What can I sell/rent this space for, and how long will it take to absorb? These are difficult questions in the best of times, but they’re even more difficult when you don’t have a lot of market activity/comparables to point to.

  All of this contributes to debt being less available, especially for smaller developers. It also makes new sites difficult to underwrite. Because as we have talked about many times before on this blog, land should be the residual claimant in a development pro forma. Revenue minus development costs equals how much you can afford to pay for land.

  If the math doesn’t work and if you can’t get financing, it almost certainly doesn’t matter how much “leading” you feel like doing. You’re not building.

  2023.03.05

• The occasional good decision

  Perhaps the greatest lesson from Warren Buffet’s most recent letter to Berkshire shareholders is that, to be wildly successful, you only have to be right sometimes:

  In 58 years of Berkshire management, most of my capital-allocation decisions have been no better than so-so. In some cases, also, bad moves by me have been rescued by very large doses of luck.

  Our satisfactory results have been the product of about a dozen truly good decisions – that would be about one every five years – and a sometimes-forgotten advantage that favors long-term investors such as Berkshire.

  The lesson for investors: The weeds wither away in significance as the flowers bloom. Over time, it takes just a few winners to work wonders. And, yes, it helps to start early and live into your 90s as well.

  So-so decisions. Periodic moments of brilliance. And a long-term patient outlook. These are, I think, important things to keep in mind. It’s okay to make mistakes; you just have to keep going.

  2023.02.28

• Amazon Fresh raises its threshold for free grocery delivery

  Amazon Fresh has just announced that, effective February 28, it will be raising the threshold for free grocery delivery. Orders under $50 will be charged a $9.95 fee. Orders between $50 and $100 will be charged a $6.95 fee. And orders between $100 and $150 will be charged a $3.95 fee. Orders above $150 will be free. Previously, the threshold for free delivery was $35.

  This is likely an indication of two things. It speaks to our current tech headwinds (see “The Four Horsemen of the Tech Recession“) and it speaks to the fact that grocery is unique. It requires a whole separate logistics chain, compared to all of the other things that Amazon will deliver to you. Food goes bad. It bruises. And it may require refrigeration.

  This makes online grocery delivery more challenging and more costly.

  2023.02.07

• F-150 trucks are powerful and rugged

  It is perhaps well known that the Ford F-Series has been the best selling vehicle for the last 41 years in the US. In 2022, sales surpassed 640,000 trucks, meaning one was sold about every 49 seconds. Of course, much has been written about what this means for overall safety in our cities. According to Axios, the average 8 year old is completely out of view when in front of an F-150. And the death rate of car drivers colliding with a truck versus even an SUV, looks something like this:

  

  Another important thing to point out is what has happened to the bed sizes on these trucks: they have continuously gotten smaller. Between 1961 and 1979, the bed portion occupied 64% of the length of the truck. But starting in 2021, the bed had gotten down to 37%. The reality, at least according to this consumer survey, is that the most frequent use case for these trucks is actually just “shopping/errands.” It is not hauling or towing.

  

  So like all cars, and most things, probably the real reason these trucks are so popular is that they evoke a particular self-image. In this case, it is something about appearing “powerful” and “rugged.” Lots of people clearly want these adjectives. But even if powerful and rugged aren’t what you’re going after, it is almost certain that you have simply chosen different words and found different ways to communicate that self-image.

  2023.01.30

• What rich people plan to do with their money in 2023

  Each year in March, Knight Frank publishes something called, The Wealth Report, which typically includes things like its Prime International Residential Index (PIRI) and a general overview of what ultra high-net-worth individuals (UHNWIs) are up to with their money.

  (An UHNWI is typically defined as someone with a net worth greater than $30 million. And as of last year, there were nearly 400,000 of them around the world, with Hong Kong being the city with the most.)

  In anticipation of this year’s report, Knight Frank has just published the key findings of an “Attitudes Survey.” This is them talking with and surveying private bankers, wealth advisors and family offices about some of the key themes for 2023.

  Here are a few of my takeaways:

  • Globally, about 1/3 of UHNWI wealth is allocated to primary and secondary homes. This is expected. Generally the richer you become, the more your net worth gets diversified away from your primary residence. It is also worth noting that of this 1/3 allocation, more than a quarter is being held outside of their country of residence. This outside-of-country-of-residence percentage is highest for UHNWIs in the Middle East (41%).
  • The average UHNWI owns 4.2 homes around the world, with UHNWIs in Asia owning the most: an average of five homes. This is the kind of stat that might provide motivation for a foreign buyer ban, but I continue to believe that there are other bigger drivers impacting housing affordability/supply across our global cities.
  • About 15% of UHNWIs said that they want to purchase a residential property this year (2023). This is down from 21% last year. Inline with bullet point number one, the greatest appetite/stated intent is coming from the Middle East. (Related article: The new Gulf sovereign wealth fund boom)
  • Real estate was identified as the top investment opportunity. About 1/3 of UHNWIs want to invest in real estate — either directly or indirectly — in 2023. And the top asset classes are: healthcare, logistics/industrial, office, multi-family rental apartments, and hotels. It is interesting to see office in the top three. A positive sign that it is maybe being viewed as an oversold opportunity.
  • Finally, environmental sustainability is being increasingly considered by UHNWIs when it comes to investment properties: 57% are considering energy source(s), 33% are considering opportunities for refurbishment, and 30% are considering the materials used/the embodied carbon footprint inherent to the asset.

  For the full findings, click here.

  2023.01.10

• What could happen in 2023

  

  The central bank tightening and interest rate hikes that we saw last year will come to an end in the first quarter of 2023 as inflation gets under control. This will ultimately lead to a recession but my sense is that it will be more mild than severe. For this reason, I don’t think anyone should expect ultra-low rates to return in the short-term.

  Much of the real estate sector went on pause in the second half of 2022. But ultimately this reset to a more balanced market is going to be necessarily painful for some. And I think we will see that pain play out in the first half of the year. This will obviously be bad for some, but it will create opportunities for others.

  Construction costs tempered in the second half of 2022 and started to show some evidence of price softening. I think we will see more of this in 2023, which will be healthy for the market. Cost management over the last few years has been a meat grinder for the development industry.

  Pre-construction condominium sales for well-located projects will return in a more fulsome way by the spring. This will be driven by buyers now having clarity around where interest rates will be hanging out in the short-term and, in the case of Canada’s largest cities, by record-high immigration levels.

  For the tertiary/fringe housing markets that saw big run ups in pricing during the pandemic, I unfortunately think it will take many years for prices to fully rebound. The price increases we saw in these submarkets were of course a result of low rates, but it was also driven by a view on urban decentralization that in my view did not actually materialize.

  The desire to add more housing to single-family neighborhoods will continue to pick up steam across North America. How exactly this plays out will be market specific, but in Toronto I expect to see new planning policies put in place, as well as supportive building code changes.

  Public transit ridership will remain below pre-pandemic levels throughout 2023. This will continue to exacerbate public finances.

  Autonomous taxis will grow rapidly this year. Companies, such as Cruise, will expand into a number of new US markets and, at some point during the year, I will take my very first ride in an autonomous vehicle.

  2023 will be a big year for augmented reality and “phygital” goods. Last year I thought Apple would release a new product in this space. That didn’t happen, but it will this year. At the same time, we will see more companies releasing products that blur the lines between our online and offline worlds (hence “phygital”). This will include NFTs and other crypto-related things that will start to operate more seamlessly in the background of consumer-facing products/services.

  I continue to be bullish on Ethereum and I think it will overtake Bitcoin in terms of market cap in the next 2-3 years. But I was very wrong about Solana last year. And now I am struggling with its value proposition. Today, layer 2 chains such as Polygon feel more likely to win out. Broadly speaking, I suspect 2023 will be a positive year for crypto, but not a record-setting one.

  In summary, I think we are going to see more pain at the beginning of 2023, but that on the other side of it will be healthier and more balanced markets. This means that we can look forward to the end of the year feeling much better than it does right now. All of this said, please keep in mind that I’m often wrong and that nothing in this post should be construed as actual advice.

  Happy 2023, friends. I’m excited to get going.

  2023.01.01

• A real estate sea change

  Earlier this month, Howard Marks published a memo called “Sea Change“, where he argued, among other things, that it is “nearly impossible to overstate the influence of declining [interest] rates over the last four decades.” In fact, he goes on to say that he would be “surprised if 40 years of declining interest rates didn’t play the greatest role of all” in the success that investors have seen since the 1980s. Of course, the reason the memo is called “Sea Change” is because his overarching point is that this tailwind is now over.

  Let’s consider this in the context of commercial real estate. If you bought a real asset at a 4% cap rate (calculated by dividing net operating income by the price of the asset) and were able to put debt on it at say 3%, you would be receiving positive leverage. Your cost of debt is less than the yield that your asset is generating, and so you are in effect magnifying your returns.

  Now let’s imagine a scenario where interest rates decline even further and somebody could put debt on this same asset at 2%. This is likely to put downward pressure on the cap rate, meaning that somebody might be willing to pay more for the same amount of yield. That is, they’re willing to accept a lower yield. This phenomenon is what Howard is describing in his memo. Declining interest rates tend to create upward pressure on asset values. And in the world of real estate, this is referred to as a compression of cap rates.

  But what happens when things go the other way? Well if you had the same real asset generating a 4% yield, but now the only debt you can find is at 7%, then you are in a scenario where, unless you can afford to pay with all cash, you will be receiving negative leverage. Your cost of debt is greater than the yield that your asset is generating. And that’s the thing about leverage: it cuts both ways. It can magnify your returns, but it will also magnify any losses.

  If the only debt that you can find for your asset is now at 7%, then your 4% cap rate is almost certainly going to need to widen/increase. That is, investors are going to want to pay less for the exact same income stream. This is significantly less fun than cap rate compression, where values just seem to always go up. But, it does also create new opportunities for well-capitalized investors.

  All of this is playing out right now. And it is part of the “sea change” that Howard has called.

  2022.12.28