How Underwriting Has Changed in 2023 with Brett Davenport

As an underwriting expert, Brett Davenport has scaled to over 1300 units in under 3 years. Listen in to see how he was able to scale so quickly, and how the rising costs of insurance is affecting the real estate market today.

Today we discuss:

• How he was able to scale to 1300 units in under 3 years
• How he's underwriting deals in 2023
• How rising costs and interest rates are affecting today's market

Brett Davenport is one of the Founders and Managing Partners with Gibby’s Capital Investments, a real estate investment firm headquartered in Houston, Texas. Locating, analyzing, negotiating, and processing the purchase of commercial real estate properties is where you will find Brett. As Acquisitions Specialist Brett pursues existing properties for our investors that meet our specific criteria for returns, cashflow, and equity gains.

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Transcript

Ciaara: 0:00

Hi, everyone. Welcome to commercial real estate bosses, where we interview badass investors who are crushing it in the commercial real estate space. I'm your host, Ciaara Hoffmann. And on today's call, we have a special guest, Brett Davenport of Gibby's Capital. So thank you so much for being on the show today.

Brett: 0:19

You bet. Glad to do it.

Ciaara: 0:21

Love it. We got the chance to meet in person for the first time almost a year ago now. So I think it was in maybe June of 2022. And so I would love for you to be able to share your story with our listeners and just tell our listeners about your trajectory. Cause I know you guys grew very quickly. So tell us what you guys did before. How you guys created your team and also what your portfolio looks like right now?

Brett: 0:50

Sure. First I want to thank you for having me on. I really appreciate the time to. Talk to you and help to educate your listeners about commercial real estate and multifamily space and what that looks like. And hopefully encourage them to believe what's possible. We did grow very fast. We've been in the multifamily space for just a little over two years not quite two and a half years. Currently we have 1, 328 units in three different states actually. So we have five properties in Houston, two properties in the Dallas, Fort Worth metro area, one in Michigan and then one in Scottsdale, Arizona. And we really got into it as a function of the conversation I had with my now son in law. He came over with my daughter. They came to visit for Thanksgiving in 2020. And he told me about what he had just gotten into, which was a mastermind group called multifamily mindset and he had just finished their three day seminar and was really excited about the multifamily space and, how the business plan worked and what the business model entailed. And so we sat down to cook a turkey. To fry a turkey and on that day and he started telling me about it. And by the time that bird was cooked I said that we should be partners which he was a little apprehensive about because at that time he and my daughter weren't even engaged yet. They were just dating. They had been dating for a couple of years, but he also knew that essentially it was. Really going to go one of two ways. Either we were going to be very successful and do lots of deals, or he was going to have to find a new girlfriend. Certainly understandable how he might be a little bit apprehensive. It went the direction that we thought it would. We have been very successful largely as a function of the team that we've built. So the team consists of my son in law, Eric Chadderdon myself and my beautiful wife, Megan. And it's worked out really well because we all took one of the three big pieces in a multifamily syndication team and that I do acquisitions and underwriting. Eric does capital raising and investor relations and Megan does our asset management, which fit really well into all of our backgrounds. So my background is in corporate America mostly in the power generation space. But I was already good. And had a lot of experience with budgeting and spreadsheets and profit and loss statements and plans forward looking plans and things like that. So acquisitions and underwriting fit really well into my natural skill set. Megan has a background among other things in project management and construction management. She worked for several years in the construction industry, worked for several different construction companies doing fire and water and mold mitigation and remodels. She's done industrial multifamily, large grocery stores, large commercial real estate stuff. So that, fit really well for her and asset management. And then Eric. Is all personality, super intelligent guy and just naturally connects with people really easily. So whenever it comes to capital raising and investor relations and those types of things where those skills are really critical he was just a natural fit for that. I would say that the biggest part of our success comes from us being natural fits for kind of a big three, whenever it comes to a syndication team.

Ciaara: 4:20

Yeah.

Brett: 4:21

And then we all decided from the very beginning this was not something that we were going to try out. We were going to get into and see how it worked out. We went the exact opposite direction and we said, okay, this is what we're doing. We jumped in, we went all in jumped in with both feet and said, we will climb whatever hill we need to climb or move whatever mountain we need to move and make it happen. And we went in with that mindset and this is where we are today.

Ciaara: 4:50

I love that. And you mentioned earlier, you started, I guess you started building your portfolio in Houston first, right? Because that's where you live.

Brett: 4:59

Yep. That's where we all live. And Houston is a really great market. There is a lot of inventory, there's a lot of opportunity, a lot of Commercial real estate, multifamily real estate is not a zero sum game. There's plenty of opportunity for everybody. And because we live here, it made it much easier to establish some of those broker relationships by meeting people face to face and looking eye to eye across the table and breaking bread, learning about their families and really digging into the relationship side of it. So whenever it did come to business and Finding deals then we've been able to establish very consistent deal flow which has also helped us ramp up pretty quickly.

Ciaara: 5:43

Of course. Yeah. That face-to-face time with brokers is very important. I think a lot of people don't realize just how much more quickly you can. Build rapport with someone with, especially with brokers, when you're trying to find those deals, if it's just phone and email, it can be really hard to get them to send you those off market deals, which is what everyone really wants and is trying to get to, right?

Brett: 6:08

Yeah, absolutely. Honestly, and even brokers have told me this, that, the deals, the money, the property is all secondary to relationship, right? Cause people want to do business with. They're friends with people that they know and like and trust and, that's why building those relationships is so critical to not only building some momentum, but maintaining that momentum and, continuing to get the deal flow to help you scale.

Ciaara: 6:31

Awesome. Now you mentioned a market that kind of piqued my interest a little bit because I haven't heard of too many people getting into this market. You said Scottsdale, Arizona. So tell me about that. Is that strategy? Was that an A class property or was that a typical value add strategy that people have normally been doing? I know you, that's how you started.

Brett: 6:54

Right, so that was the second to last deal that we did. It was actually a B class property. It's 131 units in Scottsdale. And that one was not one that we found. You were actually a part of the GP team. So we do help with investor relations and. We helped raise capital for the deal, and we also do maintain a presence on the asset management side because Scottsdale is a great market. Scottsdale and Phoenix, it's consistently one of the top five markets. So, Any opportunity that we have to get into a deal there is certainly going to pique our interest. And that deal actually came to us from an existing relationship. That Eric had. That's our only deal in Arizona so far.

Ciaara: 7:37

Yeah. when my husband and I first got into multifamily, that was one of the first markets that we looked into Phoenix Scottsdale area, we did find that. It was a lot more difficult for newer investors to get into the market. Cap rates were very compressed. There was a lot of competition with institutional money. So we thought maybe that's not a good place to look for our first deal. And so we switched and that's why we went over and flew to Houston to meet you there. But yeah, I love that you were able to get. Into a deal in that market,

Brett: 8:10

It is a really good market, but you're right. It is incredibly competitive there.

Ciaara: 8:14

So now I know that since your main role is the underwriting, I would love for our listeners to get. A little bit more insight into what that whole process is like, especially if they're new or they're maybe they're feeling a little bit overwhelmed with the underwriting process because it can be if you're not Natural at spreadsheets and numbers, you know that can be a pretty daunting to new investors. So can you give us just maybe high level, like what are some things to look for when you're starting out as an underwriter? What are some key things that you need to look at maybe on a deal before you even get into the spreadsheet?

Brett: 8:50

Sure. So the first thing really, before you dig into any deal is to pick your market, right? Market research has such a foundational impact on what a deal looks like, right? Because while multifamily real estate is not valued by necessarily the comps around it, right? It's valued by the cash flow. But that cash flow is. Directly affected by the properties that are around it, right? So we do pull competitive analysis for rent and for market sales and to determine the type of area it is to determine what the tenant base is demographics and whether or not. The tenant base can support your business plan whenever it comes to increasing rents and doing, rent premium upgrades and those types of things. Really understanding the market is going to be key to. Getting any deal and making sure that the business plan works. And it's also one of the things that you'll have to be able to defend to investors, right? Because ultimately, underwriting and it's very core is a spreadsheet or, a piece of software and you can get any deal to look as good as you want it to look just based on the information that you put in. Now, one of the things that we do tell students is to make sure that all of the information that you're putting in it is defensible, right? You have to have a methodology for the numbers that you're putting in there, whether or not it's expenses or expected expenses for the pro forma, for your one, three and five year business plan and how that kind of plays out into the value that you'll actually add to a property. You have to be able to defend that. And if you don't know the market, you don't know the tenant base. You don't know. What kind of demographics are going to drive the income, the revenue and all of that. But it's really difficult to create a business plan that you can defend with a straight face. Really understanding the market. There are rules of thumb that you can use for a lot of different expenses, but the biggest things you really need to look make sure that you have very accurate our property taxes. And insurance are really the two biggest deal killers in every market I've looked at just because, state to state taxes they renew at different rates, I think in North Carolina, North or South Carolina North Carolina, I think, now that I remember, but they only revalue properties for property taxes every four years, so if you get into a really good deal and you get into the first year of the valuation, you may not have to worry about it again if you're only doing a three year old. And in Texas, however, they, they go back and revalue properties every year, so it's always something that you have to be wary of.

Ciaara: 11:32

Yeah, exactly. And so for people that are getting started in this, obviously, like you said, you need to have reasonable information or kind of, background for how you came up with some of these numbers. Obviously, with the taxes, the property tax, those are things that you can research, right? And look up online insurance, the best thing, rather than just putting a random number for insurance, you want to actually call an insurance agent or insurance broker. And get the actual quote for that actual address. So you can put in real numbers there as well.

Brett: 12:07

Yeah. And you can look at what they've previously done for insurance. A lot of it depends on, what they're currently paying and do a policy review and see if it's something that they expect to increase significantly here in the Texas, in the Gulf coast region, insurance has gone up by a factor of three just in the last couple of years. So whenever we first started, the first property we closed towards the end of 2021, I was being conservative in my underwriting for insurance when I put 650 per door in there for insurance. And now in Texas, I'm underwriting insurance at, 2200, 23.. 2300 dollars per door. And it's not just taxes. It's, the broker I work with works with Marsha McLennan. And he said, it's that way all across the country. It doesn't matter what market you're in, it's going up by a factor of, at least two or if not three. So it's just because the major insurance companies are really. Taking a hit the last couple of years with hurricanes in Florida, the freezes in Texas, the freezes and all the winter weather they've had across the north. So it's pretty consistent everywhere you go.

Ciaara: 13:13

Yeah. You mentioned that it's gone up 3X all in a short period of time. So a lot of people are into like that have underwritten these deals three, four or five years ago. Now their insurance has gone up significantly. How do you see that trickling down into the market as far as being able to see more deals? Do you feel like maybe that is affecting the amount of deals that we'll see coming up, this year, next year?

Brett: 13:40

Yeah, absolutely. And there's a couple of different things that are affecting that. Fortunately, though, because it is consistent, sellers have started to notice to that they're not able to get the price that they used to be able to get even a couple of years ago for the deals as they're trying to transact. It's not just insurance to interest rates have gone up. So the cost of capital has gone up significantly, which also makes it difficult. It's hurting property valuations. Fortunately, cap rate compression is easing off. So now, we're actually able to find deals, between five and six and even, over six on some deals. But as as the cap rate goes up, that means property valuations are coming down, which is why, sellers, if they are forced to transact in this market they're just they're asking lower prices. So that does help. But there are also, sellers out there that instead of deciding to transact, they'll either refinance or just hold their properties, which can also affect. Available inventory.

Ciaara: 14:41

Yeah. And what are you seeing in the market right now? As far as inventory, since you are actively looking for deals and you're on the acquisition side of things.

Brett: 14:50

I'm actually here in Houston because this is where we concentrate. We're still seeing a pretty good transaction rate. Fortunately, because if you look at the state of the market just a few years ago, when interest rates were super low, there's a lot of assumptions out there, so it's not unusual to find a deal that you can assume for, less than four and a half percent or lower would certainly help some, on three year terms and then also bridge debt a few years ago was much cheaper, but those two year and three year bridge loans that are coming, due to that. That have to be refinanced either sold or refinanced into agency debt. Now the rates are much higher. It's much more difficult. So a lot of the sellers are just choosing to sell. So that also helps inventory. So it's not quite as bad as it could be, but it's also. Somebody told me stupid money is out the door. So it's just something that you really have to sharpen your pencil whenever it comes to underwriting and deal valuation to make sure that the deals that you're looking at make sense.

Ciaara: 15:51

Of course. Now with the increase in insurance costs, do you feel like that has just made it so that a lot of these deals no longer work and you're just not able to underwrite it to make it cashflow?

Brett: 16:04

Yep, absolutely. And cash flow, we used to routinely target between 9 and 10% cash on cash returns, and that's getting harder and harder to find just because. Your cash flow is a direct result of your NOI and the acquisition cost. Since everybody has to pay, first year insurance up front at closing, that's part of the acquisition cost. As the acquisition cost goes up, cash flow goes down. The other thing is because insurance costs are going up and that means you're. routine operating expenses are going up, which again is going to reduce your NOI. So as the NOI goes down, cash flow goes down. There's a couple of different things directly affected by insurance and the return metrics that. Can make it difficult. Now again, you know that a lot of that can be mitigated by finding properties where the sellers a little more reasonable in their asking price, or you can find ways to be a little more creative in the debt structure to help mitigate some of that stuff. I've looked at, we have a property under contract now and initially I was gonna do agency debt because it would, we make sure that we hit that debt service with agency debt, but it cash flowed much better with bridge debt. And the other, negative with agency debt is that, if we got a five year loan and interest rates come down in two to three years, then we're potentially stuck at a, eight and a half percent rate and would be unable to unload that with the amount of prepayment penalty and everything else.

Ciaara: 17:31

Yeah,

Brett: 17:32

a lot of considerations whenever it comes to figuring out which direction to go.

Ciaara: 17:36

Of course. Now when you're looking at these deals, all the deals that you've done, have they always been through a broker or do you feel like maybe there's also some good opportunities for people if they want to try it and go direct to seller as well?

Brett: 17:50

Yeah, if you can go direct to seller, I highly recommend it. Just because you save, those broker fees and you save some of the acquisition costs. However dealing directly with sellers can also be a little bit difficult because a lot of the things that brokers do, like conditioning the sellers for what the market will actually return and helping to organize their financials and, creating the marketing package that we often use whenever it comes to finding investors to invest in some of these deals, you go to direct to seller. That's all on you. So there's that much more for you to do.

Ciaara: 18:23

Absolutely. Now, as far as your investment strategy, has that changed in the current market environment that we're seeing right now?

Brett: 18:32

Sure. You mean our personal investments or just how we get investors?

Ciaara: 18:36

No, just like in how you find deals.

Brett: 18:38

Fortunately for us, it really hasn't changed that much because again, our deal flow is pretty consistent. We work with brokers from, all of the top brokerage houses in Houston, Walker and Dunlop, GREA, Newmark, Knight Frank, Mercadia, Colliers all those guys. We have great relationships with them and we still consistently get deals from all of them. For us, it's we really get more deals than I can underwrite, which allows us to be super picky. That's great for us.

Ciaara: 19:09

Yeah, absolutely. So you mentioned that you're pretty focused on the Houston market. So are you just focusing all your underwriting on that market specifically? Or have you, are you also when you receive deals, maybe in Dallas, are you looking to underwrite those as well?

Brett: 19:23

Yep, I am. We were looking and again, we primarily do Houston for, a couple of reasons. One, there's plenty of inventory here. Two, we live here. Megan likes to keep all her babies close whenever she can. As she goes and visits the properties every month. But DFW North Carolina, and Florida is always really good. We're starting to look into Atlanta and, of course the Phoenix area, whenever we can find it.

Ciaara: 19:47

Perfect. So I want to switch gears a little bit here now and walk through one of the deals that you've done. So if you can choose one, maybe the very first one, or maybe one that was more challenging than the others and just, how you were able to find it, what worked, what didn't work, and what are the lessons you learned that you can share with our listeners?

Brett: 20:06

Sure. All of our deals. There's a challenge for every deal, right? There's always some sort of stress. It's funny, one of my one of my mentors, Ryan Woolley, he told me, that every deal has stress, every deal has obstacles, every deal causes you to lose sleep at some point. And that's just, the way it is. And I've found that to be completely true. If it's not something you can get used to, or just accept as a natural state of being from time to time, then. It's going to be pretty difficult, but we have had deals that have been more difficult than others. We had 168 unit deal. We actually call it the Lazarus deal because we had to resurrect it a couple of times. But, that deal we had under contract at the very beginning of last year. And just in the course of doing due diligence and doing the natural acquisition process, that was really when the fed started raising rates, 75 basis points every month when they met. And it was a bridge loan. It was an adjustable rate bridge loan. And whenever we went under contract we were looking at 350 basis points over the SOFR index. So it was going to be a little higher than we wanted, but it was still, it's still penciled really well. But by the time, we got to closing, then it was potentially going to be, 550. basis points over the SOFR index, which as I'm sure you can imagine would significantly affect the returns on that deal because it was an adjustable rate mortgage and we had to buy rate cap protection. The other thing that made it difficult is when we first got into that deal, our rate cap but as interest rates started going up so much and the risk obviously increased along with those interest rates, then we were looking at, having to pay between 2 and 3% of the purchase price for that rate cap protection. Originally we were going to pay you know, 180, 190, 000. And by the time we got closer to doing closing, we were looking to have to pay 350 to 380, 000 for the rate cap protection. And that was at a, 2%. Interest rate increase, so a lot of uncertainty and, as we got closer to when we were supposed to close it just, the deal got worse and worse every month as we got closer, but we had significant earnest money at risk also. So we were really. Hamstrung about which way to go, because obviously we didn't want to lose our earnest money, anybody who's ever played poker, then they know you can't lose money if you don't put it in the pot. It was almost better to walk away from that deal and find a way to reimburse our earnest money source than to get into a bad deal and be stuck with it for, potentially five years.

Ciaara: 22:46

Yeah.

Brett: 22:47

It took a lot of negotiation. It took a lot of conversations. The deal fell out of contract. I think that the seller probably took it back to market and realized that he was not getting anywhere near What we had offered on our secondary offer. So after a couple of weeks, he called us out and he said, okay, I'll take this reduced price when he ended up knocking a million and a half off of the purchase price to make the deal pencil out still wasn't as good as it was when we started. But at least it was acceptable. And, the lender was really good and getting us close to our original. Interest rate on this adjustable rate mortgage. So not quite as good as we had hoped, good enough that it's still pencil knot. We were able to get that deal closed.

Ciaara: 23:31

Awesome. So I'm glad that actually ended up working out for you as well. And those adjustable rate, those bridge loans they obviously can be tricky. So today, how is that property doing right now? Is it in a good place?

Brett: 23:45

It's good. It is. It is in a good place. We had a challenge with the last freeze. We had 32 units or so that I think suffered some level of water damage. But, as Megan always does, she just did an amazing job working with the property management company to get that mitigated. Yeah, it's doing very well.

Ciaara: 24:04

Perfect. All right. Thank you so much for your time today, Brett. I know our listeners have learned a lot, myself included. Where is the best place people to find you online if they want to learn more about you and Gibby's Capital?

Brett: 24:17

Sure. Go to our website at gibbyscapitalinvestments. com.

Ciaara: 24:20

Perfect. All right. And thanks everybody for tuning into today's show. If you guys enjoyed today's episode, please write us a five star review on Apple podcasts or Spotify. Every review helps us to reach more and more people looking to get involved in commercial real estate.

24:36

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