Tuesday, September 13, 2011

Closings Still Lagging at Museum Park West

The blog YoChicago had a post recently looking at the amount of closings at Museum Park West (on the corner of Roosevelt and Indiana):

According to Appraisal Research Counselors, via Crain’s
Chicago Real Estate Daily
, only 22% of the units at One Museum Park West had
closed as of the second quarter of this year.

Crain’s speculates that price
cuts may be in the offing:
The slow sales and high inventory at some
projects will test the patience of lenders waiting for their construction loans
to be paid off. Some will push price cuts to accelerate the process.

A comment on this post suggested rental as an option. If the investors can hold out, we have to imagine the views from this building will eventually demand the prices they're asking for. But then again...what do we know.

(Image from: ChicagoArchitecture.info)


Josh said...

I suppose the long-term question is going to be what the financing and upkeep costs are versus the amount of cash the developers are willing to put into the units. This is speculative, but if it cost 2/3 the price of each unit (ie, a 50% markup) to construct it, and it's financed at 80% at 6%, a $600k unit costs them $400k * .8 * .06 = $19,200/year in financing costs = $1,600/month. Figure another $400 a month in upkeep and you're at $2,000/month per unit. The Crains article says they have 233 unsold units, so on this basis it's costing them about $466,000/month to hang on. The fact that they aren't cutting price suggests that either:

a) they expect they will sell the units fast enough to compensate for these costs and that a price cut will not benefit them. It's not hard to solve for the breakeven rate of sale given that we already have the 50% markup - cost on one $600k unit is $2,000/month, gain is $200,000 minus costs (I'll assume sales cost, including tax = 25%) = $150,000, breakeven is approximately 75 months (leaving aside time value of money). That suggests they think units will sell within six years or so. It only makes sense to cut the price on units if the reduction in time to sale offsets the reduction in income. A 10% price cut reduces net income from $150k to $112.5k, or 25%. So to make a 10% price cut worthwhile, it would have to reduce the time to sale by an equivalent amount - about a year and a half.

b) Some of the assumptions above are wrong - markup, upkeep, % financed, interest rate. Any thoughts on any of these?

Broomhead said...

Josh, that was the best comment I've ever read. Nice job setting the bar.

Anonymous said...

C) Unlikely but possible, they have refinanced and dumped more of the profits from the many other project they have into more down on some of their remaining projects.

Also remember they did sue many of those potential buyers that tried to get out of closing and attepted to walk away from the units, so ther is possiblity of that settlement money being poured back into the financing mix.

Anonymous said...

Josh, wouldn't it be easier to say... if they are bleeding $2k/month/unit then they believe transaction value will appreciate by >$2K/month on average. Hope they are right.

Josh said...

Re: #4, it might be easier, but it's not the same thing. They're holding a bucket of n properties with p probability of sale at x price per period t. The net gain on sale at x price is g. The cost to maintain said properties for 1 period is c. All else equal, for their price setting to be rational:

n * p(t) * c = g(x) * p(t) * n at the breakeven point (by definition)

p(t) and n cancel; ergo:

c = g(x) * p(t) at the breakeven.

To put even more simply,
c/p(t) = g(x) or "The gain on sale of a unit must be equal to the monthly cost of maintaining said unit divided by the probability of said unit selling in that month."

There's no effect on transaction value (ignoring time value of money). X is assumed to be a constant, as is g(x). The corollary I drew in a) is that, assuming x is set to maximize profit, x adjusts downwards if and only if the slope of g(x)/p is less than one. The point that comment #3 makes, quite rightly, is that there may be externalities that affect the willingness to lower x even if g(x)/p < 1.

Josh said...

Oh, and thanks, Broomhead. I live to serve.

Anonymous said...

Youre missing inflation and lost opportunity cost, but thats purely academic. Prices arent slashed most likely because the lender cant or doesnt want to afford to at the moment.

Btw, the east tower is more affordable. They will never see these prices for the west tower in real dollars.