Daily insights for city builders, delivered every morning at 6 AM ET. I’m Brandon Donnelly — a Toronto-based real estate developer and founder of Globizen. I’ve been writing here since 2013.
Next Tuesday, January 19, I am helping to teach the introductory class of a Certificate of Real Estate Development program that is jointly offered by Carleton University’s Sprott School of Business and Azrieli School of Architecture & Urbanism. Here is a full list of the instructors and key note speakers that will be participating in the program. Obviously it is all being done online this time around.
One of the great things about this program is that it’s a partnership between their school of architecture and their school of business. As you might expect given my background, I am biased in my view that this is a great way to teach real estate development. And it’s one of the reasons why I enjoyed my time so much at the University of Pennsylvania. I was free to take classes at whatever “school” I wanted to.
When I later went on to study at the Rotman School, I actually tried to advocate for a better real estate development curriculum and for increased collaboration across the business and architecture schools (both alma maters). The response I got, at least back then, was that Rotman already had a real estate major and that it was fine just the way it was. Cool.
For more information or to register for Carleton’s Certificate of Real Estate Development program, click here. I think there are only a few spots remaining.
Fred Wilson (venture capitalist) and Joanne Wilson (also an investor) have been working on a passive house apartment building in Brooklyn for the last five years. Their development company is called Frame Home. And this past week they received a pretty great Christmas gift in the form of a Temporary Certificate of Occupancy from NYC Buildings.
At 5 storeys and with only 10 two-bedroom units, you could classify this building as the kind “missing middle” housing that gets so much air time here in Toronto. And so not only have they managed to build relatively small, but they’ve done it using passive house design principles.
Here are some of the apartment building’s features:
Cross-laminated timber (CLT) structure
Passive house design approach
Triple-pane windows
Interior polished and insulated concrete walls (presumably to act as a thermal mass to moderate heating/cooling throughout the year)
Solar panels installed on the upper facade and roof (passive house design should, in theory, allow these to supply a big chunk of the building’s energy needs)
No fossil fuels used throughout the building — everything is electrical
Fully sub-metered units
Outdoor circulation spaces/stairs, providing access to a shared rooftop courtyard (I’m assuming these also serve as required egress for the building)
Dedicated elevator entrance for every suite (i.e. no interior circulation/corridor spaces)
Composting facilities within the building
Bike room connected to the ground-floor lobby
There’s also a co-working and community space planned for the ground floor called “Framework.” Interestingly enough, they have already responded to the current pandemic. Instead of open-air desks, you rent fully enclosed 8′ x 8′ pods that are sound-proofed and come with their own HVAC systems.
Congratulations Fred and Joanne on such an exciting and pioneering project. (I would love to see the development pro forma!) If you’d like to learn more about Frame 283, here is their website and here is a profile that the New York Times did on the project back in January. Building with CLT is apparently prohibited in NYC. Frame 283 got an exemption.
In life and business I find that we are often faced with decisions that pit emotion against rationality. What I mean by this is that maybe your ego is telling you to do something. And maybe, as a matter of principle, you know with certainty that you’re right. But when you take a step back and think about how that principled decision might play out, you realize that it is probably not the right life or business decision.
In the case of the real estate development business, you might realize that it is not the right decision for the project. And that’s really the key question to be asking yourself in this business. What is most beneficial for the project? It is not about what’s most beneficial for my ego.
Of course, taking emotion out of the equation can sometimes be difficult. Maybe you feel like you’re losing if you give in and don’t follow what you think is right. But the truth is that if emotion and rationality don’t line up, then you’re likely going to have to pick a side. And if you make a bad or the wrong business decision, then you’re definitely losing, even if your ego might feel a little better.
The construction process can be a pain in the ass. It’s messy. It’s inefficient. It’s always filled with surprises. And you could argue, as many have before, that every job is really a custom job — a kind of prototype. But at the same time, there is something so deeply satisfying about seeing a building come to life. Part of that satisfaction no doubt comes from the fact that it usually takes years and years to get to the point in which you’re digging holes, pouring concrete, and framing out spaces. It’s almost as if we don’t want things to get built. It’s a feeling of “finally.” But perhaps the bigger part of this satisfaction stems from the fact that building is creating and making something new. It’s about imagining what something could be and then going out and doing everything you can to make that a reality. Some people won’t like what you’re trying to build. But they might when it’s finished. And it is almost certainly not going to be an easy process. But it’s a fulfilling one. Few things are as rewarding as creating and making something new.
Why do some buildings cost more to build than others? And how is it that some cities, as a whole, seem to build more cost effectively than others? Without getting into the specifics of how different markets work, I thought it would be valuable to outline some of the cost drivers that impact new developments. But keep in mind that this is by no means an exhaustive list. So, please feel free to add whatever I’ve missed to the comment section below.
Below-grade parking is hugely expensive. It’s almost always a loss leader. You lose money building it. That’s why parking ratios matter a great deal. If you’re building in the suburbs at 1 to 1 parking vs. 0.2 in the core, you’re simply building more of something that doesn’t make money. There’s also the question of whether you need to build a watertight below-grade, or if you can discharge any groundwater into the municipal infrastructure. Big cost difference.
Union vs. non-union construction labor.
Building stepbacks add cost and create additional complexity. To build more cost effectively, you really want repetition. But terraces are awesome. I get it.
Impact fees, development levies, and other government fees can vary widely across cities. As I’ve mentioned many times before on the blog, these line items can add up to 20-24% of the price of a new condominium here Toronto.
Time is expensive. One of the bigger line items in a development pro forma is financing interest charges. The longer things take, the more expensive the housing needs to be.
Markets are unique. Quebec, for example, has relatively low electricity rates. For this reason, it’s pretty common for homes in Quebec to use electric heating, which is usually pretty cost effective to install. According to this 2019 study, 68% of Ontario households rely on natural gas heating. In Quebec, the number is only 5%.
Depending on what you’re building next to, you may face additional costs. For example, if you’re building right up against a rail line, you may need to construct a “crash wall” in order to safeguard against possible derailments and you’ll probably need to up the STC rating on your windows because of the higher noise levels. These costs will not be insignificant.
In theory, land costs are supposed to be the residual claimant in a development pro forma. What that means is that you should back into your land value after calculating your projected revenue and considering all of your other development costs. If your revenue is lower, so too should be your land cost. Land cost as a percentage of total costs will, naturally, vary across different markets.
That is the argument that Joshua Gordon, who is an assistant professor in the Simon Fraser University School of Public Policy, recently made in this opinion piece in the Globe and Mail. In his view, there’s no evidence to suggest that housing supply can actually help housing affordability. It’s just something that developers throw around to “stymie action on the demand-side” and to help with their rezoning efforts. Really, the housing problem is due to intense demand from foreign buyers, investors, and from “high rental demand.”
Now, as many of you know, I am a developer, and not a professor. So you can take this post however you would like. But I do have a few thoughts.
One, I think it’s an oversimplification to argue that there have been no regulatory changes over the last decade that have meaningfully and negatively impacted the supply of new housing. To give you one example, this fall, development levies in Toronto will complete a phase-in that has seen them double over the last couple of years. Almost a quarter of the price of a new residential condominium now goes to pay government fees and taxes. This has an impact on supply, even if the “regulatory environment” hasn’t necessarily changed.
Two, I don’t buy the argument that, “surrounding cities have also seen rapid price appreciation and it’s easier to build there, so housing supply mustn’t be the problem.” Building outside of cities like Toronto and Vancouver isn’t necessarily easier. In fact, in some cases it can be more difficult if they’re not accustomed to more progressive urban infill-type developments.
Three, it’s important to keep in mind that we have a financing structure in place that biases the types of homes (specifically residential condominiums) that get built. This approach is designed to mitigate financial risk, but it also means that investors serve an important function in the delivery of new housing. I’m not saying that the system is perfect; but I am saying that things are maybe not as simple as they may seem.
Four, just because there are cities with lots of single-detached homes and relatively affordable housing, I don’t think we can safely assume that single-family land use policies have no impact on supply and pricing in cities like Toronto and Vancouver. In fact, I would argue the opposite. This probably goes to show you the importance of an elastic housing supply. Indeed, some of the most affordable housing markets are dominated by low-rise houses precisely because it is a typology that is quicker and cheaper to build than most urban infill housing.
Finally, I’m not sure why anyone would consider high rental demand and a strong labor market to be symptomatic of a problem. Isn’t that what you usually want out of cities? You want there to be an abundance of good jobs that pay people money so that they can, you know, have a life and consume things like housing. But maybe that’s just the way that I look at things. I am a developer after all.
At a high level there are two components to the value of a house. There’s the value of the land and there’s the value of all the improvements. That is, the bricks, wood, and other stuff that form the actual house. When a media outlet runs a sensational headline about some shack in Toronto selling for, oh I don’t know, a million dollars, what it actually means is that the land in this particular area was just valued by somebody at this number. In fact, if the property is very clearly a “knock down” the improvements sitting on the land become a liability/cost rather than anything of value. Because whoever buys the land will almost certainly need to remove the improvements before they can build whatever it is they want to build.
This distinction between land and improvements is a valuable one for many reasons. Here’s one example. In cases where the improvements aren’t some shack, you may be faced with a scenario where a property can be valued in two different ways. You can value it based on the development potential of the underlying land or you can value it based on the income (either in-place or potential) that the improvements are generating, or could be generating with some hard work on your part. If the development value is greater than the value of the improvements, then there will be pressure to redevelop. Conversely, if the opposite is true, it is likely that not much will happen other than maybe capital expenditures applied to the existing building(s).
Of course, you could also run into a scenario where there’s little development potential and there’s zero ability to invest in the existing improvements, either because the market rents are too low in the area or because they’re capped and/or controlled in some way. In this scenario, it’s likely that not much will happen other than the normal and expected depreciation of the improvements. Maybe one day the development/investment math will work. But in the interim, you probably won’t be seeing any of those sensational media headlines.
One, the home you live in was likely built by a person or company that was trying to make a profit.
Two, when your home was being developed and built, it probably upset a bunch of people. Both because something new was coming and because construction can be annoying.
Three, your home was built using materials and construction techniques that were readily available at the time. Some of those materials and techniques may no longer be practical.
Four, when your home was complete, somebody probably thought, “boy, they don’t build them like they used to.”
Five, the need for new housing doesn’t stop just because you now have a home.
In Athens, I have a learned, there is something known as antiparochi. The practice took hold in the middle of the 20th century at a time when Athens was in desperate need of new housing. Supposedly during the 1950s, an estimated 560,000 people came to Athens from the countryside in search of opportunity — effectively doubling the population of the city. That was a bit of a problem for a city with no money to build new housing. So something needed to be done. The solution was a ground-up arrangement (i.e. it wasn’t a government initiative) that allowed developers and contractors to increase the supply of new housing without having to ever pay for land. And given the time period in which this took hold, it also spurred quite the modernist building boom, leaving an architectural legacy that to this day continues to define Athens.
Here’s how it worked: a contractor would approach the owner of a house and offer him a deal. He would knock down his house, and build a block of flats in its place. In return, the homeowner would be given a certain number of flats (usually two or three), while the contractor would then make his money by selling the remaining flats to Greeks who were seeking accommodation. Generally, no money was exchanged and no contracts were signed.
What’s so incredible about antiparochi is that it emerged spontaneously out of the housing crisis in Athens. “There was no specific law which told people ‘OK now you have the right to collaborate and build whatever you like’. It was the people themselves that found out this possibility,” says Panos Dragonas, professor of Architecture at the University of Patras.
Even more incredibly, the state completely accepted what its citizens had started doing, introducing only a few minor regulations, such as a maximum height for the apartment buildings – known as polykatoikies in Greek – and a ban on building over archaeological sites or on top of Athens’ seven historical hills. There were no property taxes – the state never made any direct income from antiparochi.
The elegance of antiparochi was that it appeared to solve all of Greece’s problems at once. It provided homeowners and home seekers with modern apartments, while creating enough profit for the contractors to continue investing in construction without state subsidies or bank loans.
One of my colleagues likes to remind me that in an open concept floor plan, which is obviously pretty common these days, it is the RCP, or reflected ceiling plan, that really defines a space. (For those of you who might be unfamiliar, an RCP is a plan drawing that shows you what the ceiling of a space looks like.) What he means by this is that it is things like dropped ceilings and bulkheads that really define a space. And when you’re designing a multi-unit building, you are going to have these things to contend with and coordinate (though you can also run exposed ductwork, which eliminates the need for some bulkheads/drops).
I like this reminder for two reasons.
One, he’s right. Ceilings matter. Frank Lloyd Wright, for example, is well known for playing around with them in his projects. He would take you through compressed spaces with lower ceiling heights and then “release” you into grand open spaces. The contrast made it all feel even more dramatic. (But I reckon Mr. Wright was pretty short because I swear I’ve been in some of his houses and the ceilings were in the range of 6′-6″.) And two, I want us to focus on this level of detail in our projects. They can be a pain in the ass to coordinate and you can’t always get them exactly how you want them, but we are paying attention.
