Birgo Capital’s rent collection was surprisingly strong during the height of the pandemic in Q2. Rent collection is no doubt a concern for private equity real estate investment firms. How did we fare in Q3?
The onset of the coronavirus pandemic brought with it widespread fear in the multifamily real estate industry that renters would largely not be able to afford to pay rent. These fears proved to be largely unfounded in the early days of the pandemic, as rental collections were surprisingly strong throughout the second quarter. Data from the National Multifamily Housing Council indicates that there was only a reduction of about 1-2% when comparing rent collection in the second quarter of 2019 as compared to the same period in 2020. In fact, Birgo Capital's rent collections were actually 2.2% better in Q2 than they were in Q1.
This was a welcome surprise, but industry experts cautioned that real estate investors should be slow to claim victory. Surely the data were reflective of artificial economic strength as a result of unprecedented stimulus released through the CARES Act. According to most, the pain would start to be felt more acutely in Q3. It stood to reason that as liquidity from the Paycheck Protection Program, enhanced unemployment benefits, and economic impact payments dried up, renters would likely struggle to meet their lease obligations. In this article, we’ll take a close look at what transpired in Birgo Capital's portfolio in the third quarter.
Recap: Observations from Q2 Results
While it’s true that renters generally did pay rent in the second quarter, there were still noteworthy trends in Birgo Capital's portfolio. Key observations, and corresponding questions to ask with most of Q3 in the rear view mirror, are as follows:
- Tenants that historically paid rent on time continued to consistently meet their lease obligations in a timely manner throughout the second quarter. As stimulus began to dry up in Q3, was this still the case?
- Collections were shockingly low in the second half of March; this is perhaps when economic fear was at its peak, as no relief package had yet been passed by the federal government. However, March appeared to be an anomaly, as late-month collections returned to normal levels in April, May, and June. Were there any noteworthy shifts in payment patterns in the third quarter?
- The introduction of eviction bans led to pronounced delinquency for renters who were struggling prior to the pandemic. If a resident was behind in March, they were likely much further behind by the end of June. Did these tenants continue to accrue larger and larger past due balances?
- Whereas industry experts predicted that low-income renters would experience the greatest struggle as a result of job losses in hourly wage sectors, there was no clear distinction of delinquency among more affordable properties in Birgo Capital's portfolio. Somewhat surprisingly, it appeared as if there was no disproportionate impact to residents of lower-cost apartments in the second quarter. To what extent did this trend persist in Q3?
Let’s take a look at what happened in July, August, and the first half of September with respect to these trends.
01 Consistent rent payments persisted through the third quarter
Below is rent collection data for the portfolio as of mid-month from January through September:
As was the case in the second quarter, the very clear trend throughout Q3 is that renters paid rent with the same consistency as prior to the pandemic and the associated recession. For Birgo Capital, collections relative to the original pre-COVID budget are actually trending better now than they were early in the year.
It’s worth noting that we have not adjusted the budget benchmark in this analysis to reflect rent increases since the onset of COVID-19. On the one hand, that would imply that collected rents as a percentage of the budget are modestly overstated in the above analysis. On the other hand, the reality is that more dollars are coming in the door now than they were at the beginning of the year, and that’s objectively a positive trend. The simple fact that rent increases are happening runs counter to industry wide expectations since the economic shutdown in late Q1.
02 Frozen payment activity in late March was an anomaly
Rent payments in late March arrived at a snail’s pace. Whereas Birgo Capital typically collects about 10% of monthly rents in the second half of the month, our late-month collections were only half of that in March. This was concerning to us, as we perceived a possibility that renters who typically pay late in the month were in a fundamentally different position as a result of the pandemic. We sought to understand if this was simply a function of the widespread economic fear that was present in the earliest days of the pandemic, or if it was indicative of a broader, more concerning trend. The trend quickly reversed: late-month collections in April, May, and June were 98.3%, 99.2%, and 95.5% of what was expected. As you can see below, favorable late-month collections clearly persisted in Q3, affirming our hypothesis that the dry spell in late March was a function of the broad timidity that was present in the earliest days of the economic shutdown.
03 Severe delinquencies are improving
A troubling trend that was evident throughout the second quarter was that eviction bans resulted in larger past-due balances for delinquent tenants. Birgo’s experience as a landlord was that while the vast majority of residents were acting in good faith and keeping their accounts current, those who were delinquent were falling further and further behind. This was to be expected, as well-reasoned and otherwise beneficial eviction moratoriums ultimately left landlords without the ability to apply consequences for non-payment.
However, creative hands-on management strategies actually resulted in this trend reversing itself in the third quarter, even as the eviction bans persisted. Many of our most delinquent residents agreed to vacate their respective units in exchange for our offer to forgive the past-due balance and not pursue any legal action. This was a win-win in many instances, and resulted in an improvement to our average receivable balance.
It’s worth noting that Birgo Capital has seen a modest uptick in the number of past-due accounts in mid-September as compared to recent months. Perhaps this is a function of the cessation of enhanced unemployment benefits, but the data are not significant enough to cause much concern.
The reduction in severity of delinquency is further observed in the reversal of growth of the average balance of our 15 most delinquent accounts. While the most severely overdue accounts are larger now than in typical times, they’ve noticeably decreased from their peak in June.
Fifteen (15) Most Delinquent Accounts: The Trend Reverses
04 The resilience of lower-income renters is remarkable
In recent months, Birgo Capital has continued to be concerned with the potential for economic vulnerability within our tenant base as the pandemic is presumably having a disproportionate negative impact on the low-income population. While job loss data does support the notion that sectors with hourly wage jobs, which tend to be lower paying than salaried roles, are the hardest hit, there does not appear to be clear data indicating that lower-income individuals are falling behind on rent.
We have analyzed this by comparing the cost of apartments in each of our geographic regions compared to the past due rent in each of those regions. Presumably, those who rent more affordable apartments have a lower income than those who rent more expensive apartments, so we would potentially expect those in more affordable apartments to be more susceptible to job loss. However, as you can see in the below chart, there does not appear to be a clear upward trend in past due balances in more affordable housing as compared to moderately more expensive regions:
While we don’t believe that our tenants are unaffected economically by the pandemic, we admire their commitment to continue to pay rent despite the challenges of this season. We are proud to call them our tenants, and are grateful for their consistent good faith efforts to honor the mutual commitment of the landlord/tenant relationship.
We’re not out of the woods yet
Despite the compelling track record of rent payments in recent months, we believe there is deep economic turmoil in certain sectors and the challenges to come are significant. Permanent job losses are mounting in industries like travel and tourism, and we still don’t have a clear path to the end of the public health crisis. Even as semblances of normalcy return to various parts of the economy and our everyday lives, there are others that have been fundamentally altered, and the negative impact of these events on renters’ ability to pay rent may not yet be visible. Birgo Capital is keenly aware of these risks and is committed to monitoring trends and taking a deliberately conservative approach in all areas of our business for the foreseeable future. We do, however, look back with appreciation for having weathered the storm well thus far, and we tip our caps to our tenants, lenders, vendors, employees, and all stakeholders who have thus far contributed to successful navigation through uniquely tumultuous times.
Analysis Context
We are a private equity real estate investment firm in Pittsburgh, PA. Our analysis spans a portfolio of approximately 1,250 residential units of Class B and Class C workforce housing within Pittsburgh and surrounding markets, held in various investment vehicles. This represents all residential properties that we have owned and operated for at least 6 months. Units included in this analysis range from studios to 3-bedrooms, with the majority of them being 1-bedroom or 2-bedroom, 1-bathroom apartments. Rents across all unit types average $690 per month; the least expensive unit is rented for $390, the most expensive for $1,415, and the median for $680. The gross potential rent for these apartments in one month is $860,000 assuming 100% occupancy and zero loss to collections; in an average month, we budget total rental income of approximately $805,000 to account for 5% vacancy loss and 1.5% collections loss, and we entered the months included in this analysis at approximately 95% occupancy. Note that 15 units included in this cohort were sold on June 30, 2020, and as such the analysis excludes them from that point forward.
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