Data Center Development With Chad Fowler

The REI Diamonds Show - Daniel Breslin | Data Center Development

 

Guest: Chad Fowler is an architect specializing in data center design at HED Design part of the mission-critical team which is dedicated to advancing technology integration and implementing sustainable practices. Chad emphasizes the importance of educating communities about the significance of data centers in the digital landscape. His work aims for a better understanding of how data centers support modern technology and infrastructure.

Big Idea: Chad discusses the evolution and significance of data centers in supporting modern technology, particularly in the context of AI advancements, and argues that their crucial role in the digital age requires innovative design and community engagement.

This episode is also sponsored by Lending Home. Lending Home offers reliable & low-cost fix & flip loans with interest rates as low as 9.25%. Buy & hold loans offered even lower. Get a FREE iPad when you close your first deal by registering here now.

Resources mentioned in this episode:

HED

View the episode description & transcript here:

Data Center Development with Chad Fowler – REI Diamonds

Chad Fowler & I Discuss Data Center Development:

  • Data Center Definition and Evolution (00:11 – 00:30)
  • Power Consumption and Cooling Technologies (00:49 – 01:20)
  • Impact of AI on Data Center Design (05:45 – 06:08)
  • Community Education and Sustainable Practices (42:20 – 43:10)

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Data Center Development With Chad Fowler

Mr. Chad Fowler, welcome to the REI Diamonds show. How are you?

I’m great. Thanks for having me, Dan.

You’re with HED Design and on the mission-critical team, which is mostly focused on data center design throughout the US and around the world. What’s the deal with that?

We’re primarily US-based. The global market is there, and it’s something that we have done a little bit of work in future expansions.

This will be a little bit of a diversion from probably a lot of the topics that we have on the show here, but I think this fits for a few reasons. Number one, we’re talking about real estate development. I’d argue one of the most niche values, I would probably guess this is the highest value per square foot transactions that we saw in 2024 and 2023, if I had to guess, on a price per square foot basis. I think $2,300 a square foot was one traded in Elk Grove Village, which our Chicago audience will know that name, but maybe not so much the rest of the folks around the country.

 

The REI Diamonds Show - Daniel Breslin

 

We have real estate development, high-price niche real estate that we normally probably don’t look at. I thought this was an interesting topic. I’m hoping we can get a nice little overview of the industry on our show episode. Chad, what else did I miss from the short introduction here that might help fill in any holes?

I’ll expand a little bit. I am an architect by training, so my background is in architecture. HED is an interdisciplinary company concentrating on advancing our world. It is where we focus on positive impact and the future of what we can offer to our built environment and our communities.

Data Center Definition And Evolution

Why don’t we start with defining a data center? What is a data center? Maybe you’re defining one in the last 18 months because I’m betting that this industry has moved a whole lot in the 20 or 30 years that you guys have been designing these things.

It certainly has. It’s a whole different world now than when it started. It’s a very exciting time. We are interacting with a data center as how you and I are talking virtually. Our everyday lives are becoming connected to data centers the more and more technology we use. That’s driving this rapid expansion in the market and a lot of other factors. What are they? They are information storage locations, and they are information hubs, transferring from one location to another location. They are areas that do calculations. They are areas with AI.

 

Our everyday lives are becoming increasingly connected to data centers as we use more and more technology. This, along with other factors, is driving the rapid expansion in the market.

 

Let’s jump to the AI. AI learning, AI calculations, and AI data are all stored, developed, and figured out in a data center. They can be large facilities. They can also be small facilities. Every office function has a need for some small or medium data center component. They can either be housed by themselves and operated by themselves, or they go to co-location providers, which are larger facilities, and they become part of that larger infrastructure.

On the small end versus the large end, in the number of square feet, talk real estate. What are we thinking? Is it 200,000 on the large end?

That’s a decent-sized medium building, 200,000 square feet. The smaller ones could be 10,000, 20,000, or 50,000 square feet. That’s on the smaller side. Larger, you’re getting into up to a million square feet in there. The power consumption of those is astronomical when you think about it. The 200,000-square-foot building you’re talking about, 2 or 3 years ago, we’re looking at 36 megawatts of IT load. That’s infrastructure load. That is the power that is going to the servers, which is what is housed within the data center.

On top of that, you have to add all the power that is associated with cooling. As you’re using that power, the generator generates a significant amount of heat, and you have to provide the cooling in order to heat-reject that and the overall loads within the building. For 36 megawatts, you’re looking at 36-plus megawatts for total power consumption within that building. It depends on the efficiency you have there.

If we were to put that in context, what is that? Is that 600 houses’ worth of power?

You’re talking about towns. This is going into a 200,000-square-foot facility. When you look at that all within a spot, that is an enormous amount of power.

That was 2 or 3 years ago, you said. What about now?

We’re now getting to the point where we’re not even sure how much power we can fit in that 200,000 square feet. AI has changed our environment and our world to be something completely different. You hear a lot in the news about NVIDIA, what they’re doing, and what some of these companies are producing. Their rollouts are taking an enormous amount of power and putting them in a very small square footage space. If we take that 200,000-square-foot building, 36 megawatts in there, you’re almost doubling that power to that same square footage.

 

AI has really changed our environment and our world, making them completely different.

 

The challenge that it is driving is how do you take all that electricity and that heat that is generated in a smaller footprint, and how are you handling that? Historically, that was done by air distribution going over the servers and air management. The supply air, which is cooled, is forced through the inlet of the servers. It is then separated as it comes out the back of the servers, which is the hot air, and that recycles back into the server.

You can get into the servers. In an individual server, it is roughly 2 feet by 4 feet, and it can vary. Let’s say it’s 8 feet tall. That’s one server. One server was historically somewhere between 8 and 10 KW per cabinet. That same cabinet, that same footprint, instead of that, let’s say the high end of this is 10 KW power, we’re looking at 30 KW, 40 KW, 50 KW, or even more.

Mostly, that’s the AI trend, and NVIDIA’s new chips and that kind of thing that we hear a lot about.

We’re hearing all about those. Those are facilitating the ability in order to do all that compute power in such a small area and so efficiently. In order to get there, you’re providing a liquid-based, or some transferable-based, cooling medium that is transferred, and it’s going directly into the servers or the individual pieces within that cabinet, which is a 2-feet by 4-feet piece. It’s going directly into there, and in some cases, directly to that chip to provide the cooling exactly where you need to provide it at those densities.

It’s almost following the trend of the automobile. I think the early Henry Ford Model T’s were air-cooled. You got a radiator in the car, and you’re using antifreeze and a water pump, and you got the radiator in the front catching the air, going with a liquid base. That’s amazing. That computer power now requires that technological leap.

Think about you sitting in a computer. That computer is going to have a bunch of wires for your power and your connectivity to the outside world and provide a couple of other connections, and some sort of liquid is going in there to cool what’s inside your small little computer at your desk.

The Future Of Nuclear Power In Data Centers

That’s wild. We have a challenge too. You’re generating all this power. I remember a few years ago, I read something, I can’t remember if it was a book or what, Bill Gates probably 5 or 7 years ago. I remember he was pitching the platform of nuclear power. We’re going to run out of energy. I’m thinking to myself, electric cars are coming, and I get where he’s coming from. What a nice guy that he wants to get us on nuclear so that we could have plenty of power for our air conditioner, and refrigerator. I’m coming to the realization he knew AI was a thing.

They had data centers everywhere. Microsoft is one of the most cutting-edge companies, certainly in tech, and maybe in the world. I’m like, he saw this coming, and we need nuclear power to power these data centers. I guess it was more of a business initiative on his part. Do you think that package nuclear power plant facilities are in our future here in the next 5 to 10 years, where a data center is now going to have its own uranium pellet that’s providing this kind of power?

It’s an interesting thought. Yes, in the short term. I think if not that, it’s going to be something similar to that, that we see happen. You’re seeing the large tech companies such as Microsoft and others. They’re looking at acquiring locations and restarting nuclear power plants. That’s simply within the northeast. What you were talking about is the small nuclear reactors, the module pieces that could be located in locations.

That is a hot topic. I think there are a lot of regulations that need to be figured out. Also, how do you get those in certain locations and jurisdictions? How does the community understand what it means to have that? It’s a scary word. I grew up in the 20, 30, 40, or 50 years ago. That was certainly something that was not necessarily viewed as positive.

Still enables if Fukushima went a few years ago, and that was a big deal and scary, and still is scary. It’s still scary to think we would have these little trailers dropped off with little miniature nuclear devices, and that’s going to be powering, not my backyard.

I mentioned Bill Gates and what he’s doing. It’s evaluating new technology and how that can be safer than what it was historically how we’ve been using it, and what our views are on that. I don’t know a lot of information about it. Somewhere in the West, I think the Wyoming area, he’s rolling out a trial of that technology. That’s my belief. I believe that when that happens, I’m assuming that it will help open the doors for more of that to come.

I think this had to do with using the spent rods from the nuclear facilities, which is a big problem, and storing those in New Mexico in some mountain somewhere. We’re going to run out of place to put that stuff. This new technology is supposed to recycle that. We’re out on a limb calling nuclear a green technology. I think it glows green, so we do have that.

They all have their upside and their downside. It’s the technology that’s not fossil-fueled that can efficiently provide the power that the country is looking to move into. As we move off fossil-fuel-driven appliances, cars, and all that stuff, the power still has to be generated in some fashion in order to get it to those points. The advancement in that technology or other technologies is going to be vital in order to keep going.

Green Design Innovations In Data Centers

That must happen. While we’re on the green topic, are there some green design techniques that maybe were developed in the last 2 to 5 years, that you guys have installed in data centers that might be helping with the problem of the pooling, the large amount of power, maybe the way that the properties look?

There’s a lot of that going on. It’s hard to point to one specific thing. I will say the data center market uses an enormous amount of energy. There’s no ifs and buts about that. What you want to do is make the usage of that energy as efficient as possible. There’s a metric that is used in the industry called PUE. The PUE measures the amount of power that goes to the building and then the amount of that power that is used for IT, the end source, and the servers.

Historically, if you’re looking back 20 or 30 years ago, you were looking at facilities that PUE was two-plus. Meaning for every amount of power that was going to the server, you were using that same amount of power to your building and cooling technology. Two is not a good number. One would be all the power going to that building is going straight to your IT. We’re now designing the facilities that are much closer to that one.

That’s 1.2. A little bit below that is 1.15. You can see where we started and where we currently are. Ideally, somewhere we’ll get into below one and where we’re generating power and pushing it back. How do we get there? How does sustainability come into that answer? The market drives a lot of research, and a lot of motivation to make that more efficient. Cooling technologies.

The advancement over the five years of how efficiently the cooling technology is distributing that air to the servers, and functionally how much power it takes to make those work, has grown substantially. The large tech companies, and the large REITs that are developing, are all working with manufacturers in order to help those manufacturers develop equipment that operates the most efficiently that it can. That means more money for your development.

At the end of the day, you’re saving money on the operations and overall. Other aspects of technology certainly in sustainability is with the building itself. I think there’s more of a concentration to make buildings themselves, either some LEED level, higher carbon footprint, evaluating how all that goes into the buildings, what material you’re using, and what’s the efficiency there.

Also, location. Location becomes a big driver, geographic location. The power you’re going to ultimately utilize, where does that come from? Pacific Northwest, there’s a lot of hydropower up there. There’s the good and bad of hydropower, but it’s generally a green power source. We’re talking about nuclear before if it’s nuclear sourced. By far, most of it is still fossil fuel-driven.

When we talk about the location, you can’t put these out in the middle of Wyoming either. Don’t they have to be near the population base due to distance? With the technology for data transfer, can it be halfway around the world, and it doesn’t matter?

It’s what’s happening in the data center. Some of the AI stuff that’s going on can be in the middle of Wyoming because it’s self-perpetuating. It’s working within itself, and then it’s sending information out. It’s not as critical latency, which is how much time it takes the information to go from that server to you. There are things that are latency-dependent. At night, if you’re going to log on to Netflix and you want to start up your movie, you don’t want to sit there and see that wheel spinning for even ten seconds. You’re going, “What’s wrong?”

Not even three seconds.

That’s an eternity. Those are the areas where you want that proximity to be vital. Certainly, if you get to the financial world, the stock market, getting milliseconds is critical as well.

 

In the financial world, stock markets operate where milliseconds are critical.

 

You mentioned that AI can be slightly latent. I think we’re forgiving because AI is a new technology. You go on and you do deep research in AI, Gemini, and Google’s version. You set up your prompts, and then 5 to 10 minutes later, you get back to this nice report. That report probably could have been done by McKinsey or something and probably would have taken 30 days. We’re willing to wait eight minutes for that now, but what’s that going to look like five years from now? Is it going to be like a dial-up modem, and all of a sudden, it’s Wyoming AI data centers? Who’s going to rent that? That thing’s bankrupt. What idiot thought that was a good idea?

One thing on AI, I took a call. I can’t remember what the call was, but I remember thinking there was a big pregnant pause. I think this is AI. It felt like latency. I didn’t ask it if it was AI, but the voice sure sounded robotic. It was some confirmation call, a customer service thing. Somewhere AI certainly would be plugged in. It got whatever I was looking for done because I don’t remember being frustrated at the end. I remember thinking there’s this odd long pause. Maybe that’s the latency of the distance to the data centers that they’re using now.

It could be. Unfortunately, I answered a robocall the previous day because I was thinking it was something else. I had a similar experience where I started to say hello, and then there was a pause. I’m like, “Maybe no one’s there.” Someone started to talk, and then I responded, and then there was the pause, and I was like, “Talking to a machine.” Certainly, in the future, that’s going to change. It’s got to change. There’s going to be some prompt. There’s going to be a point where we’re not going to know what that is.

I think AI is a huge boom and how and what we use it for. I don’t even think we know how we’re going to ultimately use it yet. I’m sure somebody does, but it’s going to continue and continue and continue to improve as it develops. The data centers that we’re doing now are facilitating those AI to become what it will be in the future. There is a learning environment for AI. It’s not our learning, per se, but it’s got to have that data. You’ve got to feed that data into it in order to be able to understand it.

 

The current boom in AI is significantly changing how and what we use it for, but its ultimate uses remain unknown.

 

Are We At Peak Data Center Development?

You’ve been present and operating as an architect for the past 30 years, which was what you mentioned before we started the call. That would have put us through the dot-com boom and bust, and we’re in the AI boom. I wonder from your perspective, with the number and size of centers and the money that’s thrown around for these things, I believe they overbuilt the data centers in 1996, 1997, 1998, 1999, 2000.

They were building and building way more capacity than we needed up until about 2003, 2004, and 2005 when video finally came online, suddenly we didn’t have enough capacity anymore. Do you feel we’re at the peak of data center development yet, or maybe I’m totally off base, and we still have such a humongous runway to go and it’s unexplainable.

I think about the dot-com days and when it’s coming again. I don’t think we’re there yet. I think that was way before its time, the dot-com boom, as we saw, it was prepping for something that wasn’t happening at the same pace. My understanding of the people that are driving this market, what their plans are over the next year, and the amount of money that they’re pouring into this is mind-boggling and will continue to grow for the foreseeable future. It is going to change. When will that happen? I don’t know, but it’s not going to be certainly in the next five-plus years.

I guess we should all buy more NVIDIA stock then, is that it?

I know, yeah. That’s starting. There’s going to be more of them. They’re starting everybody. Others are developing it. Where we are in the data center development and what that means is we don’t understand what that means to the buildings still. In order to deploy an NVIDIA lineup, you’re going into a 60,000-square-foot computer room. That’s what we call white space, where historically, there would be lines and lines of cabinets and servers.

You’re going to a room, and there’s 10% of that room being utilized for the NVIDIA servers. That’s it. It’s a big, empty space. How we plan and how we plan the buildings and how we make these buildings more efficient is something that is coming and will start to happen over the next few years as we see how we can provide all the backbone of the equipment and get that cooling and that power to such a small space.

How big is the actual building? Is it 80,000 feet to make a 60,000-foot white space?

What I say is 60,000 square foot white space, there could be six of those within a 200,000 square foot building. That one would have less than six of them.

Ten percent is the NVIDIA build-out. Is the rest vacant for future expansion?

It’s vacant because there’s no additional power to be used there. That’s an extreme event.

We’re not building a bunch of empty data centers as we speak. That’s not happening.

It’s what’s driving change in the industry. It’s exciting to see what’s going to happen.

The Business Model Behind Data Centers

Would you mind breaking down the owners? We mentioned REITs, and we think REITs are renting out the space. Are we talking 200,000 square feet, and the whole thing is rented to Amazon web servers? They probably are building their own for AWS, and they are 100% full, but what’s the makeup of a 200,000-square-foot building with 360,000 square-foot white spaces? Are they all one tenant, or are there seventeen tenants? What’s the business model behind the scene if you know?

It’s any and all above to be. Large tech companies like the Amazons and the Microsofts of the world are expanding so fast that they’re building and operating their own facilities. They’re also going to these REITs and taking an entire building that they’ve built and developed just because they can get that online faster than they can develop their own buildings.

That’s the speed of the market that they’re working under. That’s a big impact that’s happening there now. Historically, there’s a mixture. I think different companies have different philosophies on how to do that. There are a number of REITs that develop that and then they lease. It’s very much co-location. They’re either leasing cabinet space. It could be one cabinet for a client. It could be ten cabinets in a room that could house 1,000 cabinets.

There’s a breakdown of that. In between that, you have companies that need the computing power of 6, 8, or 10 megawatts of power, and they lease the entire room. That’s all the room in order to do what their requirements are. Any and all above. By far, the biggest impact is from those large tech companies there, where you’re taking old buildings down. That’s the ultimate goal in that world.

Do they built on spec and then they put them out as a co-location? Microsoft is like, “We need it all. Here’s a lease.” Is that how they’re going down?

Kind of. You might have to tweak it. You might have to make some adjustments because the kit that they put in there, which is all their servers and things, might need to have a few different requirements than what that spec build has. You might have to make some modifications.

That would be the developer or the owner of the building making those modifications on their dime. Now Microsoft comes in and will take that for a 5 or 10-year lease, something like that. I guess one of the risks if I’m the developer and I build a site, some new chip could come in. AI could design a better version of itself in a utopian world. Suddenly, what used to take 60,000 square feet happens on one server rack, and now we’re overbuilt.

The other thing is that technology is moving so fast, I would imagine you would know more than me, but in 30 years, how fast technology moved, where after Microsoft has gone, now the layout where they were all air-cooled servers, they’re all liquid-cooled servers. I don’t know what more modification will be necessary for that landlord, but you’d have a pretty big bill to upgrade the technology at the end of each lease.

There are still facilities that are operating that were built twenty years ago in these co-location spaces. Some of those were long-term leases, but they do flip. There’s still a market that people who do not need these high densities that we’re talking about. It is a hot topic in our world in data center design, these enormous loads are driving all the change.

There’s still a strong market of people in the smaller avenue that can still accommodate the historical loading power densities that older facilities were designed for. As designers, forward-thinking, there’s a lot of unknown what is going to happen. You do want to design a facility that is purposely built for what it’s doing now, but in many cases, some philosophy or thought is given if it needs to change.

Can you give me an example of a design decision that fell into that latter category?

It’s very common. Will it need liquid cooling? When you’re designing a space and you’re building it on spec, will it need liquid cooling? Will it not need liquid cooling? You don’t know. You don’t know what those requirements are. You’re looking at the facility and looking at ways your base design will not incorporate liquid cooling, but your planning will allow that to come in some time down the road. Hopefully, it’s still in design, or if it’s being built, it’s easily flexible in order to pivot without having to adjust the bones of the building.

You need to have your structural loading in order to accommodate. You don’t want to go back in and reinforce everything. You want to have your clearances able to accommodate the additional equipment without relaying out the whole building and possibly losing some leasable space. Those are the things that we’re looking at now in the planning to make sure that there is flexibility for what we see possibly coming down the road now.

Is that as simple as a 24-inch between or underneath of the floor where the servers sit with flexible panels or something like that, that would allow someone to modify that at a future date?

Somewhat, the raised floor system, fewer facilities are using that. Twenty-four is a lower density height. We’re getting commonly at 30 or 36 inches or more in order to get the air up to that 10 kW that we were talking about before. The raised floor now is going away, and the room is being pressurized in order to do that. Air management is critical. There is a planning. When you’re planning the facility, it is important that you are planning hot and cold aisles, as I was talking about.

The servers have intake. That’s where the cold air comes out. It has exhaust. That’s where the hot air comes out. You never want those two to mix. There’s containment that surrounds the servers so that those two, the cold air being blown within the space and that hot air being pulled back to the units to be cooled again don’t cross.

Were they like that 15 or 20 years ago too?

When I started my career, you’d walk into a facility, and the servers were blowing hot air and it was a disaster. It’s funny to look back and think that’s what was going on. It’s now unheard of. You would never do that. Why? You’d walk in, and that management philosophy, certainly the first thing you would say, “Fix your airflow.” You have to fix your airflow in order to be more efficient in your power consumption.

I imagine that’s not cheap to do that though. Fifteen or twenty years ago, it wasn’t necessary. Why would you want to spend all the time with plexiglass walls and sealant and everything? It’s expensive to put that. Come on. We’re just trying to get this thing leased.

Who would have thought you would have been in this problem? Over the last 10 or 15 years, there’s more of a concentration on making sure that doesn’t happen in that containment.

The Cost Of Building A Data Center

That’s smart. Speaking of the costs to build, do you have any big numbers per square foot or anything like that, that you’ve seen go down? What’s the cost? If they’re spending $2,300 a foot to buy an existing data center. I think they were going to put another billion dollars into it or something like that. What is it, $2,100 a foot to build it? $1,600 a foot to build it? Does this include all the equipment as well?

There’s a lot there. The land and the building are enormous costs because it has all the equipment, but then the IT build-out of that is something I can’t even guess for you. The costs that I’m seeing on single cabinets and some of these servers are in the multi-million-dollar range. Millions and millions of dollars. I’m not even going to go to what the IT kit costs, to be honest with you. On developing the buildings, I don’t have a good recent metric. There was a time when we were looking, and we were quoting $10 million a megawatt. I think now, with the things that are changing and the demand in the sector, those numbers are increasing.

It’s probably going to be more than spending $106 a foot to build a three-story Class A self-storage facility in Lawrenceville, Georgia. I can’t just go throw a couple of racks in there and call it a data center.

You could, I’m not sure how much you’re going to lease it for. Your return and your investment might be a little different.

We’d have to go after that old twenty years old rack that’s still operating. Secondary market sounds like. $500 or $400 a foot, do you think, for the envelope, you had to guess?

I think it’s somewhere in there. Don’t quote me on that.

No one is going to call you from my audience and try to build one and be like, “Chad, you said this was $400. What do you mean by $750?” You’re like, “Inflation. What do you want me to do?”

That’s a moving target, but I would say something in that range on a square-foot basis.

Community Education And Sustainable Practices

What else did I forget to ask that you feel might be interesting or important for the audience here before we wrap up?

Something interesting in this space is data centers have gotten a lot of bad publicity. They use a lot of energy, they’re dirty, they’re loud. I think there’s a lot of concentration on what we’re doing now to try to educate the public on what is a data center. Do you know every time you go on social media, you’re connecting to a data center? I don’t think generally people understand how that affects their daily lives and what it means to us.

Communities are a little shy and, “I don’t want that development in my backyard.” I think as an industry, we’re looking at expanding our education to the world on how you use them. They’re not scary. If you look at buildings that were done twenty years ago, they’re gray boxes behind this big security fence. They’re somewhere you never go. You’re not allowed to go there. How do we change that image?

There’s a lot of push within jurisdictions and other areas that buildings are contextually designed to fit within the spaces. That is a little bit more community-friendly, and then certainly educating people on how and what and why they’re there is one thing, what are the benefits they bring to the community and our lives, and then also educating. It’s a market that’s growing so much that it’s hard to find people to come in and help design. One, help operate. There are not enough people operating them.

 

As an industry, we are pushing for better public education on what a data center is, why it matters, and how it benefits the community.

 

There are not enough people to construct them, and the skilled labor that is associated with that. I think seeing more push in the education front in order to promote communities, allowing more of these, understanding them, also promoting knowledge in what it takes to design, operate, or build these facilities in order to encourage people to come into the trades or the design aspects of the space.

It doesn’t sound any different than anything we ever get entitled to or improved. It doesn’t matter if it’s a single-family house, a shed or a hot tub in the backyard, a storage facility, or a giant flex warehouse. They never want it done. Everyone hates it. They don’t want the corners turned into a Wawa, which is the convenience store in the Northeastern United States where I grew up. They don’t want it there, but then they shop there and get their gas there. They’re there 5 out of 7 days a week. It’s like, “You guys were fighting this. What are you doing?” A data center does not necessarily have heavy truck traffic in and out all the time.

Your biggest demand is under construction. When you’re building it out, the actual amount of people in the spaces is minuscule compared to the size of the building and the traffic. There are a lot of benefits in some cases in a lot of communities because you don’t have to upgrade all of your support barriers, roadways, or all that because it’s not a big office space where you’re having a thousand people go to that facility.

A thousand trucks and a million-square-foot bomber of an industrial warehouse are never going to work. Before I ask my final question, is there anywhere our audience can go to get some more information about this, you, or maybe HED Design?

I’m happy to have anybody visit our website. The website is HED.design. You learn more about us and what we do there.

The Kindest Gesture Chad Has Ever Received

My final question. What is the kindest thing anyone has ever done for you?

That is an interesting question. I don’t think I’d be where I am without many people doing a lot of kind things for me. Certainly, how do you pick one of those out of all of them? That’s a difficult choice. When you look at it, family is the kindest thing. Certainly, all my family, my coworkers, and everybody does an immense thing. I have kids, I have to say. I have two sons. When one of them runs up and gives you a hug, that is the kindest thing that happens to me any time. That’s it.

I love it. I have pages and pages of notes here. I appreciate you coming on the show and giving us your time. What an interesting topic at the forefront of our technological revolution known as human existence here. Thank you, Chad, for coming on the show.

Thank you for having me, Dan. It was great to talk to you.

 

Important Links

 

 

 

 

Hampshire Capital CEO Shane Carter On Real Estate Development

The REI Diamonds Show - Daniel Breslin | Shane Carter | Real Estate Development

 

Guest: Shane Carter is a seasoned real estate developer and entrepreneur with over 27 years of experience, specializing in multifamily and single-family development. He is the author of “Optimize Your Life,” which emphasizes balancing professional success with personal well-being. As the founder of Hampshire Capital, Shane leverages his expertise in construction and development to create value and foster community growth.

Big Idea: Shane shares his journey from home builder to successful real estate developer.

This episode is also sponsored by Lending Home. Lending Home offers reliable & low-cost fix & flip loans with interest rates as low as 9.25%. Buy & hold loans offered even lower. Get a FREE iPad when you close your first deal by registering here now.

Resources mentioned in this episode:

Hampshire Capital LLC

View the episode description & transcript here:

Hampshire Capital CEO Shane Carter on Real Estate Development – REI Diamonds

Shane Carter & I Discuss Real Estate Development:

  • Balancing Personal Growth and Professional Success (00:01:46)
  • Real Estate Development (00:07:45)
  • Strategic Insights on Market Conditions (00:30:00)
  • The Impact of Kindness and Networking (00:49:09)

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Hampshire Capital CEO Shane Carter On Real Estate Development

Mr. Shane Carter, welcome to The REI Diamond Show. How are you?

I’m doing great, Dan. Thanks so much for having me. It’s an honor to be here.

Balancing Personal Growth And Professional Success

I’m sure people who will have read the description and the bullet points from our conversation are looking forward to hearing about all of the large-scale single-family development deals and the multifamily assets. Before we dive into that, in September 2024, I believe, you released the book you wrote, Optimize Your Life. I know that a lot of our audience is about family, freedom, and living life to the fullest. Would you mind taking us through a little bit of the journey of putting that book together and maybe what the top-line message is?

Thanks, Dan. I appreciate that. This is a book that, just so we’re clear about it upfront, I didn’t write to be a lead magnet or to be a funnel into a course or to be anything other than a cathartic process of getting my thoughts out and wanting to share with others all that I’ve learned in the 27 years of my professional career and my personal growth journey. I’ve been a personal growth junkie from the very beginning. I’ve read and absorbed about every book you can. This is my recounting of the main lessons that I’ve learned on that journey. It starts with mindset and how we quite literally create the world around us via our mindset on a daily basis.

If you do that consistently and long enough, you craft your own life in a very meaningful way. The rest of the book also goes into what I believe to be a critical balance between mind, body, and spirit. I think that’s a piece that a lot of entrepreneurs miss. There’s a lot of influencers out there. I’m not going to name names, their sole focus is business growth. “Grow your business. Eat, sleep, live, and die, and breathe it. Grow for the sake of growth.”

 

The REI Diamonds Show - Daniel Breslin | Shane Carter | Real Estate Development

 

I offer many counterpoints to that that I don’t think are very healthy for most of us to try to engage in. The main one is relationships. It doesn’t matter how much money you have if you don’t have good relationships with your significant other, with your friends and family, with your children, etc. I personally know several people who are extremely wealthy and have massive regrets because they don’t have the relationship with their children that they wanted or they wish that they had had because they were so focused on growing their company.

That’s something for everyone to hear before it’s too late before they go too deep down that road. Also, physical health and wellness. I’m a big health and wellness guy. I don’t think that anyone performs to their highest and best self without a real clean machine and a highly functioning physical body. The spirit part is, again, something that people don’t talk a lot about, but I believe that a connection to a higher spirit and understanding yourself through that lens as a conduit to the beauty of a higher power is very releasing and freeing so that we can let go of the rope a bit and enjoy the journey more.

 

We create the world around us via our mindset daily. If you do that consistently and long enough, you craft your own life in a very meaningful way.

 

I imagine you must have a couple of kids then.

I have three.

About how old now?

My oldest boy is fifteen. He’ll be sixteen next month. I’ve got a six-year-old and a four-year-old.

You’re in the thick of it then right there.

Yes. I’m loving it.

I’m going to take the opposite side. I think there’s probably a time, maybe we go back. Your 27-year career and your boy’s about to be sixteen now. What about the first ten years? Was there a little bit of an obsessive drive that probably is helpful to get the momentum going? If someone is tuning in now and they haven’t quite got the momentum going in their career yet, I would posit it could be potentially a little bit detrimental and you may not get to where you want without some period of time. Is it 3, 2, 5, or 7 years? Maybe it’s different for a lot of different people. For me, I know I had to push hard for 5, 6, 7, 8, or 9 years before the momentum started to show. Not that I neglected my physical, spiritual, or relationships completely, but there is some place for getting the cart moving.

I can’t disagree with you. I think you’re right. If I reflect back on my journey, there was absolutely that time period. For me, it was similar to yours, probably. It was in that 5 to 7-year time period where it takes a lot of energy to get that flywheel to spin so that it starts to spin on its own. You’re right. It does take a drive and a passion. As a younger man in my 30s, let’s say, that was critical to my ultimate success.

I think you’re right on that. I’m not going to discount that at all. I’m fortunate that I had kids a little bit later so that I was able to establish my flywheel and have the grace to be able to step back and get a little more balanced about it. You’re right. It does take that hyper-focus up front to get something up and running and going.

 

It takes an incredible amount of energy to get the flywheel to spin, but once it does, it starts to spin on its own. The challenge is knowing when to step back and regain balance.

 

Maybe you and I are probably at that place where balance is important. I’m 44 now. My daughter graduated college here, so she’s 23. Got married, and may have another round of young kids running around here. This is a topic that’s hot on my mind. It’s like, what’s that going to look like in the next 5 to 10 years? If I fast forward and I’m blessed enough to have a 4 to 6-year-old there, what will I construct life from there? Falls back to the mindset piece of your mindset creates the world around you.

Real Estate Development And Career Beginnings

I realized that. The options are somewhat endless. How do I want to create the next steps of my life? Good position to be in. Let’s shift gears here if we can. Real estate development background. When I saw the booking agents connect us, God, it must’ve been 5 or 6 months ago at least. I was looking forward to this one on the calendar. It’s like, “This guy has this real estate development background.” Would you mind starting here in your career and establishing that may have been some foundation for what you put together since then?

My background, Dan, is what I like to call the classic self-made man story. I’m a bit older than you, so I bought this late-night infomercial Carleton Sheets’ No Down Payment book way back in the day, in the late ’90s. That was my kickoff to understanding real estate and investing in creative thought processes around real estate. I started wholesaling contracts and flipping houses. Through that process, I developed a passion for construction and development, the process of transmuting old, horrible properties into beautiful homes for families and folks to live in. It was extremely rewarding work, and I loved it.

I loved the whole knowledge base of understanding how a building works and how you build something from the ground up. I started to get into new construction as well and started a general contracting firm, did tons of renovations, tore a bunch of homes down, and built beautiful homes in their place. I grew myself in that capacity over the years, went from building starter homes to middle-market homes, to multimillion-dollar luxury homes.

I got into community development, where we’re getting land entitled and then putting in the roads and then building the homes and building entire communities. I also got into building townhomes and mixed-use projects, etc. That’s how I grew as a developer over the years, but that’s all transactional income. I always took the transactional income that I made in those businesses and invested in income-producing assets, predominantly multifamily, and predominantly value-add multifamily because I was a construction guy.

I didn’t know how to use other people’s money until 2014 or 2015. I think I took in my first investment. The beginning part of my career was, “I’ve got an extra $10,000 or $20,000,” and I would use it as a down payment, go buy a little fixer-upper 3 or 4-unit building, have my construction company fix it up, we’d rent it out, we’d refinance it, and I’d get my money back.

I’d buy an 8-unit, a 20-unit, and then a 60-unit, and so on and so forth. I let my equity and transactional money fuel my income-producing asset acquisitions. I learned how to partner with people and bring in partners to leverage their money and my expertise in construction and development. We started to do bigger projects, which got us into investing in the South, and starting to look hard at that in 2018 and 2019. We’ve acquired a little over 2,000 units and $320 million or so in assets there in the last five years.

What’s the plan? Are you holding those, or is it the buy, add the value, and sell strategy to cash everybody back out?

Those are still mostly value-add projects and properties. The value-add’s been completed on all of them. We’re in the buy-and-hold stage because of the market shift. We’re fortunate that we are in fixed-rate debt and have good leverage positions on all of them. We’re looking to exit assets in 2026, 2027, and 2028. We’re always looking to buy more. It’s been very difficult with the lack of liquidity and the lack of deals trading to find opportunities that make sense for us.

Exciting Real Estate Deals In Recent Years

It’s hard to make them pencil out. What’s the debt now? I haven’t checked, but I imagine you could probably get some Fannie products, like 6, 6.25, maybe 6.50, or something like that. That’s 30 years, you’re stuck in the thing, yield maintenance in the whole deal. What, in the last 12 to 18 months, are the deals that are exciting to you and that you are participating in and getting up off the bench for 2023, 2024, and now we’re in 2025?

We saw the writing on the wall there in late 2022, beginning of 2023, in terms of the rising interest rate environment and what that was going to do to the industry. We were fortunate to pivot back into my background, skill set, network, and experience and got back into land development and got back into that side of the business and are doing it in the growth markets that we already know and understand.

We have folks in Dallas and folks in Tampa, where we have staff and employees in those areas. We’re hyper-focused now on doing what’s called horizontal land development. We do entitlement work, but we also take land that’s already been entitled and approved, and we buy it and put it in the roads and infrastructure. We get construction loans, put in the roads and infrastructure, and then sell finished pad sites or finished lots to the national homebuilders.

Some of our clients are D.R. Horton, Pulte, Meritage, those types of firms, top 50 nationally traded homebuilders. We’re excited about that side of the business and growing that side of our business because there’s a dearth of developers who know how to do that and have the capacity. We’re fortunate, we have a $50 million investment fund that we started last year, that we raised capital for.

That fund allows us to invest in land development. To a builder, we’re an interesting group because we have capital, we have the resources, we have the skill set, we’re vertically integrated, we do the construction management, and we’re able to come in and fill a void or a niche in the ecosystem where there are not enough guys developing lots for the homebuilders. We’re capitalizing on that opportunity now.

It’s interesting, and I’m in a partnership where we’re doing quite a bit of this. I think our fund has 14 or 18 projects, something like that. Each one is probably between around maybe 80 lots on the low end and 250 to 300 on the high end, except ours is all paperwork. It’s sold to the builder as soon as the construction drawings are approved, they’re going to settlement. Not a tree has been moved, and not a curb or a water line has been installed on the property.

You’re now stepping in, and maybe you’re an interim type of person who’s taking that dirt and putting the road work in there. It can be a risky scenario, at least, that’s the way our investment philosophy has worked, which is why we’re exiting on the front end. I think D.R. and Pulte and the rest of them have another third-party developer who comes in, does all the roads, and does it almost work for a fee. Is that you guys, or are you buying the land?

That’s us. After this episode, we have to talk because I’m your buyer for all those deals. That’s exactly what we do. It is because D.R. Horton, a lot of these nationally traded companies, publicly traded companies, I should say, have what’s called a land light strategy. What that means is they keep it off their books, and they keep it off of their balance sheet by leveraging third-party developers. For D.R. Horton, they’ve got an interest in a group called Fourstar Group, another publicly traded company.

All they do is put in roads and infrastructure, and sell the finished lots to D.R. There’s an entire network of other builders, and Fourstar Group doesn’t serve all of D.R.’s needs. There’s still a tremendous amount of opportunity and need for third-party guys like us to come in, and put it on our balance sheet. We take the construction loan, we take the risk, we put in the roads and infrastructure, and then we deliver the lots on a 2-to-3-year timeline.

They get to buy the dirt with finished lots and tranches, take them down, build houses, sell them, and they don’t even have to buy the next tranche until they’ve sold through most of those first ones. It hits their balance sheet, and then it turns into revenue quickly. That’s their strategy. We’re an important part of that ecosystem because we hold it on our balance sheet, and we take that risk, and we take that interest carry, and we hold it on our side.

We make the numbers work well. You brought up something important though, which is risks. The risk on our side of the business is usually, who’s going to buy this? We mitigate that risk by having the contract with the builder upfront before we close on the construction loan. Let’s take one of your examples. You’ve got 120 lots. You got it entitled and approved. You got construction drawings done, and you’re saying, “I’m selling it to the builder,” but the builder is not buying it.

The builder is taking that, and they’re assigning it to someone like me for us to close on and put in the roads and infrastructure. What they’re doing is they’re giving us a forward contract to buy the finished lots at a certain price. There’s even an annual escalator involved in it, etc. They’re locking in their position in their land pipeline and controlling it without having it on their balance sheet. That’s our role.

If a builder is paying $100,000 for a finished lot with all the infrastructure in there, what can your all-in cost basis be with the interest to carry the whole thing? Are you able to pack a 30% profit margin in there, or is it a little thinner than that?

It depends on the deal. That’s a great question. It’s usually in that 20% to 30% range. Our buy box is pretty similar to yours. What we focus on is the 100 to 400 lot community size. We want to be in that $15,000 to $20,000 a lot profit range. That’s what we target and focus from a risk-reward profile. It is because again, these construction loans, I’m personally guaranteeing them. We go out, we get a $20 million construction loan to build all the roads and infrastructure. It’s not on the builder’s books, it’s on our books.

Even if it’s non-recourse to the entity, there are these things called completion guarantees. Anyone who’s done development knows the completion guarantee for a development project is in place the entire time until it’s completed. You are on the hook then, therefore, personally, the entire time due to that completion guarantee clause.

When you guys build them out, if you have a 300-lot subdivision, somebody got that entitlement done. Are you doing the construction drawings and approvals, or is that done also and handed to you when you step in?

We do it both ways. We work with all kinds of different folks. Some folks get the land use zoning approvals completed and the entitlements. We step in and do the engineering drawings and the CDs, and get everything laid out, and then we close on it. We love working with folks who have all the CDs done, the engineering’s done. They’ve already got indications of interest from the builder groups, and we step in, and we close on it, and we go to town, and get those contracts with the builders set up.

Everybody wins there. We’re not taking away from anyone. We’re still giving someone like yourself, or somebody who’s doing the entitlement work, all the money that they want. We’re still selling the lots to the builders at a price that makes sense for them to build their product. We’re sandwiching ourselves in the middle and making a nice profit for taking on the risk we’re taking on.

Do you guys build that out in one tranche, or would you build out 80 lots in four separate tranches as they complete, and perhaps not have to pay interest on the other unfinished sections until it’s time?

That’s a good question, Dan. This gets into my business partner and the highly detailed financial models that we have relative to this, but we try to have our expense build be in concert with our revenue chunks that come in the lots. There is an efficiency though, however, from a site work. I own site work equipment, I’ve been doing site work development for a long time.

There is an efficiency of mobilization and getting there and doing the work that starts to become cost-prohibitive if you’re asking guys to stop and wait, and then remobilize. There’s this fine line of allowing the project to proceed and the expense to build, and then staggering the lot takedown schedule and the revenue build, so that your max exposure and your max interest carry is usually never more than about 40% to 50% of the total cost of the project.

First Subdivision And Land Development Experience

It sounds complicated, complex, and scary. Can you take me back to the first subdivision that you approved? Maybe it was like you turned one lot into two, or something like that. What was the first time you went and did a subdivision where you put infrastructure on the land?

The first time I did that, that was a small four-lot subdivision. It was here locally when I was still an active home builder. Again, someone else had done all the work to get it entitled and approved. It was shovel-ready. Drawings were done for the roads. The lots were laid out. It was a plug-and-play go. Bought it, put in the roads and infrastructure, built the homes, and sold them.

I make it sound easy, but that took us the better part of a year to do that because it was our first one and we didn’t know exactly what we were doing. We screwed up the water lines at first, and we worked with the city to get that corrected. We had to dig up some water lines and put in some curb stops in the right locations instead of the wrong locations. That was a bit nebulous on the plan. That’s why we made that mistake. The water management was fine.

The sewer was fine. The grades, we had to play with some of the grades a little bit. The engineers had laid out grading for the individual lots in a way that wasn’t as ideal when we got there physically on site and started building and developing these homes and having to deal with all the additional fill that they didn’t calculate for. We raised some elevations on some of the homes to account for some of that additional fill and did some tweaks like that. It was a great learning experience on only four lots. This is going back probably fifteen years ago now, but a great learning experience.

Surviving Economic Downturns In Real Estate

You were in the business through the last downturn. I guess it’s the second downturn if we’re counting the COVID downturn. It’s been a while now. In 2007, 2008, or 2009, around that time, what were you up to then, Shane?

I was in the thick of it. I was buying assets. I had, not a ton under my belt at that point, but I want to say I probably had 40 or 50 rentals under my belt at that moment in time. I was doing construction and development work. I was flipping houses, I was renovating homes, and I was doing new construction builds for others as a fee build for clients and building custom homes. I hadn’t quite got to being an entitlement developer yet. I was in the thick of it.

Being a custom home builder through that time is what allowed me to thrive and exist through it without getting through completely unscathed. A couple of things. First of all, everything that I owned, I didn’t over leverage because I bought it cheap. It was all challenged properties that needed to have a ton of work done. I did the construction work ourselves at cost and refinanced them at a low enough level so that they would produce great cashflow for me.

In other words, I didn’t pull out too, too much equity. I didn’t over-leverage those. That was a great lesson to learn through the crash was that in ‘05, ‘06, and ‘07, I was still buying properties and doing this burr method of owning assets. I never over-leveraged. That was something I didn’t think about other than I wanted to make sure that the rents that were coming in gave me a great margin. That’s all I thought about when I was doing it.

I didn’t think that something bad might happen. You might wish that you had lower leverage. I wanted the cash flow. I liked the whole concept of passive cashflow. I already had a transactional cashflow business that was giving me more cash. I didn’t necessarily need to have access to more cash. I wanted to set up a passive machine. That served me through that. That’s what I was doing.

What market was that in?

All here in New England. It was Northern Massachusetts, all of New Hampshire, and Southern Maine.

Very constrained real estate markets with not a lot. I’m guessing you probably have zero subdivisions going or done under your belt that are 120 lots or more anywhere in New England. Am I right?

Correct, you are 100% right.

You get into a market like that and that weathers a storm like the 2008, 2009, or 2010 type of era, a lot better than in the Atlanta, Georgia area where the construction was insane in that go around. Texas, same deal. You got very easy zoning and approvals in Texas compared to Georgia and compared to the Northeast. We have a few storage projects up in the New Hampshire area, all-purpose storage, you probably have driven by them. It’s taking forever to get approvals and the permits and everything. Luckily, I guess it did because maybe we would have overbuilt a bit, who knows? There are pros and cons for market downturns, which in my opinion, the market downturn, I think we’re in a flat era.

I don’t think we’re going to see 10% increases in value again for a few years, pretty much anywhere in the country. I don’t think we have the conditions for a blowout quite yet. If you look at the demographics and the large peaks of people that exist in the home buying year compared to the valleys in the home buyers demographic in 2008, 2009, and 2010, some of that was the underwriting was faulty and some of it maybe more was the window of home buyers.

It was like the lowest population in all of recent history at that age. I think the next time we may see some trouble on the horizon might be fifteen years from now when you start to see maybe some of these demographic shifts continue. The birth rate is low and there’ll be these lower valleys where we had peaks in Millennials and Gen Y and the rest of it.

I would agree with that. I’d say at least ten years. I know that due to the chronic underbuilding that we’ve done since the crash and the GFC, it’s going to take us ten years from the beginning of 2025, it’ll take all of ten years to get back to a homeostasis or a balance in the construction and home-building marketplace. That includes multi and single-family. That’s where we are and we can’t build more because we’re zoning and entitlement constraint.

Has it been that way for ten years already?

It already has. Just about.

Buy and hold, right?

That’s right.

Strategic Insights On Market Conditions

While we’re on the topic of the predictions, we’re in January, everybody is forecasting the future. Other than what we talked about, maybe we could switch gears and touch on some of the predictions and maybe touch a little bit on the development cycle around multifamily residential. You have 300 million plus, 2,000-some-odd units. I’m guessing these are Sunbelt assets, Florida, Texas, Georgia, that kind of thing. Where are we at? We had a lot of multifamily new construction in the last five years, but I think a lot of that’s maybe winding down. Do you have any predictions on the development cycle and the larger multifamily assets and maybe your appetite to jump into that?

It’s something we live and breathe every day. Our asset managers eat, sleep, and breathe this, and they are extremely in touch with the market at a granular level in the markets that we’re at in the Carolinas, Texas, Florida, and the Southeast. You’re right, we overbuilt, and we have the highest surge of multifamily deliveries that we’ve ever had, or that we’ve had in 30 years, I believe, since the ‘70s. The interesting thing is that it’s being absorbed, though. We did see some negative rent growth.

We have some B assets and some C assets. We did see some negative rents occur due to the shifting that happens when you have that supply hit the market and folks moving up, if you’re in C, you move to B, or in B, you move to A. We did see that and feel that over the last 24 months. I believe that is stabilizing now. That new A class is absorbing well, and I think that the best story coming out of 2024, was the absorption of the high deliveries. It could have gone the other way, and we could have been dealing with a much bigger problem on our hands, but thankfully that didn’t occur.

That tells you that we are a renter nation, and we’re going to stay a renter nation. The affordability gap’s never been bigger. Frankly, I don’t see it coming down in the next three years. I think we’re going to have an interesting time period in 2025, there’s still a bunch of deliveries in 2025, by the way, it’s coming off the peak. I think when we hit 2026 and 2027, we see a cratering of deliveries in multifamily, and that’s going to allow rent growth to occur. I think rent growth starts to occur at the end of this year and into Q1 of 2026.

I think you’re going to see great rent growth through 2026 and 2027. When I say great, back to 2%, 3%, and 4% rent growth. To me, that’s great in terms of stability. When we were seeing 5%, 7%, 10% rent growth annually, that’s unsustainable, and anybody who’s been in the business long enough should know that’s not good. It’s not okay. You can ride the wave while it’s there but know that from a macro perspective, that’s not healthy.

For us, we’re thinking about jumping into using our skillset and capacity for multifamily development to deliver products and coming out of the ground in 2026, 2027, and 2028, because that’s when it’s going to feel great to have new products, and hit the market again. We’re going to be in a rent-growth environment. You’re going to see stability of pricing, and I think you’re going to see a lot of liquidity flow back in later this year and into 2026 and 2027. Liquidity is the primer to cap rate compression. It’s not interest rates, it’s liquidity. That’s where I see cap rate compression happening and where I see liquidity happening so that properties can exchange again and we get back into a trading environment.

 

Liquidity is actually the primer to cap rate compression. It’s not interest rates, it’s liquidity.

 

Is liquidity still a function of the interest rates, though? It is like I’m not willing to transact and buy, and I can’t pencil a deal out at a 7% cap if I’ve got to pay 6.5% interest. I’m like I’m going to sit the market out. If I’m a seller, I’m not selling at a 7% cap, so I’m going to have to wait until they get down to 6.5%. The liquidity still is tied to the interest rates at some level, or am I missing something?

You’re right, Dan. It is tied to it, but I think it’s not a direct correlation. I think a lot of people think about interest rates and cap rates as being intimately tied. There’s this intermediary thing called liquidity that ties them both together. I think liquidity is linked to the cap rate and linked to the interest rate. Through that process, interest rates are linked to cap rates, but it’s only through liquidity that it happens.

It’s funny, the interest rates shot up in a six-month period in 2022, unlike anything I’ve experienced in history, but the cap rates certainly did not follow anything near lockstep. I think the latest report I looked at was a week or so back, and they’re still inching up. It’s by 0.25% or 0.18%, but it’s been doing that all the way through. The cap rates are ever so slowly following that curve as time goes on. What would you expect?

I looked at a multifamily development deal within the last three months, and the exit was pro forma at 5% or 5.5%. I don’t know if it was a 6%, or if they did it at a 4.5% as a cap rate to sell. They’re going to merchant build, stabilize it, and sell it. The whole project will be done in 3 to 5 years because it’ll be 1, 1.5, and 2 years to get it built and all the entitlements finished. They thought 1 or 2.5 years to stabilize it, and then 1.5 to buy and let the buy and hold. Those 2.5% rent increases burn off a little bit. They had good financials to sell it.

I felt like a 5.5% cap to me feels low, but I’m more of the old product dealer kind of guy. Most of my industries, like 30-year-old storage facilities, 25-year-old shopping centers, and 100-year-old warehouses. All our cap rates are 7.5%, 8.5%, or 9%. They’re high. That was one of the first instances where I was a little bit shocked. I’m curious because you’re in the business and looking at these new builds potentially for 2027. For you, is it more of a yield on cost as you enter that deal? Do you pay attention and you’re mentally thinking, I hope this is a 5.5% cap product, because when I sell it in year four, it will be a four-year-old vintage product, and it should probably go for this cap rate.

First of all, it’s hypermarket dependent. Even hyper-location dependent within the market. What we do to bake in conservatism to our underwriting is if we were looking at a development deal for multifamily, let’s say in Atlanta, to pick a market that you’re familiar with, we would, first of all, take a close look at where exactly in Atlanta is it. Is it in the Northern section of Atlanta? Is it in the Southeast? As you know, there’s a big difference between those two.

We take a close look at the location, and then we poll the brokers, and we say, “Where are A-class assets trading?” They are assets that are moving, and they might be from REIT A to REIT B, or from Blackstone to REIT B, or what have you, but there are assets still exchanging hands in that A-class. A-class is where all the big money wants to be, and A-class is where most astute, smart money wants to be.

That will give a good indication of what they’re valuing, what they’re seeing in the market, and what they’re valuing A-class now. We would base our pro forma on what things are trading for now in this environment, knowing and expecting that, as we’ve discussed, looking at macro trends, looking at supply drop-offs, and liquidity increases, that cap rate could compress. Let’s pick a number, let’s say things are trading at a 5.75% cap now for A-class in Atlanta.

I think it’s probably less than that, but let’s say it’s 5.75%. We would underwrite that for a future development project that we’re going to deliver in three years from now. We would do a sensitivity analysis on what that looks like if it’s a 6, a 6.25%, or a 6.5%. We’d also offer some potential upside options of what it was to look like at 5.5% or 5.25%. We wouldn’t underwrite at a 5 or a 5.25%, saying, “It’s 5.75%. We expect a 50-basis point compression due to XYZ, and therefore we’re going to underwrite that.” We’re not going to do that, but I do believe that’s going to happen, but that’s not how we underwrite.

That’s what I call delusional optimism. I wrote a blog post on that. When I invest my money in LPs, I have to have some delusional optimism. For me, I need to say, if things go tremendously well in the other direction, what is that going to look like? If there’s nothing there that I can be delusionally optimistic about, I probably don’t want to invest. Most of the time, if they’re higher yield development projects and longer-term things where I don’t get cashflow for 2 or 3 years while the thing stabilizes, there has to be some delusional upside, in a sense. That doesn’t mean, in some instances, it could be a 100% return in month thirteen if things go our way. Is it going to happen? 90% chance, probably not.

Key Metrics or Evaluating Development Projects

I’m prepared to sit here and wait my 3, 4, or 5 years until we’re stable and we exit. It turns out to be more of a 24% IRR. I hope, still good. The 24 is not delusional optimism. That’s more of a realistic pro forma projection based on, like you said, a 5.75% cap rate. Whereas underwriting it at the 5% cap or 5.25% cap would probably be what I call delusional optimism. Do you pay any attention to any other metrics? Is there price per unit or rent growth? What are some other things on a development project that would have to check the box before you’re going to go ahead and entitle a site?

We do feasibility studies on anything that we do like that. We get John Burns’s study, and they’re the industry standard for that type of feasibility study. There’s a wealth of insight, knowledge, and data that comes from those. That’s key. I think our main metric is untrended yield on cost because that shows, whether are we fundamentally creating value and what is that value.

If we say, and again, going back to that example, that we have a conservative forward projection that the asset is going to trade at a 5% or 7% cap in 3 or 4 years in Atlanta. The untrended yield on cost, for us, we want to see that at 7% or higher, maybe even 7.25%, to know that we are 125 or 150 BIP Delta between what our untrended yield on cost is versus what our exit would be. That’s how we know we’re creating value.

That’s smart. That makes sense. Does that yield on cost? That doesn’t apply, or does that apply if you were doing the subdivisions that we mentioned earlier?

No, what we’re doing on the subdivision side is more transactional income. Where we’re buying it for X, we have construction costs, and we’re selling it at Y. It’s a pretty straight-line metric. We have interest carry, and then we have overhead and profit. It’s more of a transactional income business model there. We can apply that same metric, however, to the BTR space, which is something that we’re excited about given that we’re uniquely qualified to have a vertical integration to deliver BTR communities to the market. Where, again, we are focused on that 150-basis point Delta in yield on cost versus stabilized value.

For any of these assets that we mentioned, we lightly touched on built-to-rent. We touched on single-family community development, and we touched on potentially maybe buying value-added multifamily properties or building from the ground up multifamily. Would any of those have the potential to show up in the $50 million fund that you mentioned?

Yes. We can do any of those four items. For us, too, when we think about developing multifamily into 2027, 2028, etc., as we discussed, for us, it’s not to be merchant builders. For us, we’re going to pick the right locations, and we’re going to build that. We’re going to keep that untrended yield on cost Delta.

We are going to keep those assets for a long time. We are in the process of understanding how we want our portfolio to be structured over the next ten years. As we exit some of the B and C class assets, we’re going to be continuing to high-grade into the A minus and A class assets. If we’re going to be developing something, we’re likely going to be developing it with a programmatic LP that will want to stay in and keep the deal with us long-term.

What does that mean Programmatic LP? That’s not the fund. Is that maybe a family office that’s taking a single check investment?

Yes, correct, or a group that understands who we are, and what we do, and is willing to invest in a 90, 10 equity construct with us on a go-forward basis for that type of product. That’s something that we always have our eyes on the horizon for.

Makes sense. I guess that’s the smart money and the big money, and we’re going after the A-class assets at that point.

That’s right.

Investor Insights On Real Estate Fund Structure

Can you run me through an example of the fund? If I am an investor, and I bring $250,000, how long is it locked up? What are my expected returns? How soon is capital due? Any other details that might be pertinent in that example?

Our fund is structured on a five-year timeline and horizon. It’s a 10 PREF, and for that level of investment, it would have an expected five-year IRR of 22%. That’s a little over a 2 times equity multiple in that five years with a 10 PREF. As the dollar amounts go up, we have four different class sizes, A1 through four. Higher dollar amounts have a higher split. They start at 70-30 and then go up to 90-10 for a waterfall based on the check size.

Have you pulled the entire $50 million in, and now you’re forced to deploy it, or is it you get commitments on a certain amount and then do a capital call? Putting $50 million to work tomorrow is a tough task for anyone.

For sure. First of all, we have not raised all $50 million. We do only call capital on an as-needed basis. We take the commitments. Beginning of January, we have opportunities that are closing next month. We would call that capital usually 30 days before closing. It is a commit-and-call system that we have.

What is the usual time distance? If somebody committed, are you usually calling them 30 to 60 days, or is it sometimes 6, 7, or 8 months before the capital is called, or there’s no control of something like that?

I would say it’s probably going to be, certainly no sooner than 30 days, and would likely be within a 90-day to 120-day time period. We have a pipeline of deals. We have all sorts of additional methodologies for solving equity, but our fund is our primary source. If there isn’t available capital there, we have 2nd and 3rd fund options available, fund-to-fund options for us as well.

I have one question I’m going to ask as my wrap-up. Before we get to that wrap-up question, if somebody is interested in getting on an email list for the fund, perhaps there’s another better way that you would have our audience stay in touch.

Check out our website. It’s HampshireCap.com. There are a lot of good resources there. There are tons of buttons you can click to get on our contact list and have one of our team members reach out and have a conversation with you about what your goals are and whether or not we might be a good fit for your portfolio.

The Impact Of Kindness And Networking

My final question is, what is the kindest thing anyone has ever done for you?

Dan, I wasn’t prepared for this. That is awesome. This shot into my head because this is how powerful it is. When I was a teenager, I switched high schools midway through my freshman year, ninth grader. Halfway through the year, around this time, maybe February or so, I switched from one high school to the other. New kid, all these other kids had matriculated together. I didn’t know anybody. I remember sitting in this class, and there were these two girls that sat in front of me, and they turned around, and they were so kind to me, and they asked me who I was, and where was I from, and what my deal was.

They introduced me to people, and they completely made something as stressful as any teenager could ever think it could ever be, it was, and they completely made it effortless and graceful and beautiful and easy for me to integrate into that school. I am forever grateful to them. That’s how I love this. I tell it because that’s how impactful small acts can be. I’ll never forget that. To them, they’ve long forgotten about that because they were being themselves and being fun, outgoing, kind people. That’s who they are. For me, that was forever impactful.

 

Small acts of kindness can have a lifelong impact.

 

I guess we got to pass it along from there. Shane, I have pages of notes here. A ton of great detail. I appreciate you opening the books and being transparent with all the questions, and I appreciate your time coming on the show.

My pleasure, Dan. It’s been great. Thank you.

 

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