Philly's Suburbs May Not Be 'Cool,' But That's What Makes Them Valuable

It is natural in any industry to try to be a trailblazer. But for developers in the Philadelphia suburbs, it is important not to look past what makes commercial real estate in the area successful.

Multifamily developments have proliferated in the last couple of years, with several projects looking to come online in the next year or so. While the easy narrative would be to chalk that up to Millennials moving back out to the suburbs to start families, the reality is different.

Baby Boomers look to be the primary driver of rent prices in the suburbs as they look to sell their homes and downsize once their children have moved away. They are renters by choice.

“The term 'renter by choice' didn’t exist seven or eight years ago, because there weren’t properties that were attractive [enough] to people who could afford homes,” Madison Apartment Group’s Greg Curci said. “The average income in our newer product is well over $100k per year, so they could obviously own homes and choose to rent.”

Curci added that the average age of renters in Madison’s newer portfolio is 72 years old, which means Baby Boomers are “sustaining suburban apartments right now.”

Those renters want the same things out of their apartments as Millennials — access to transit, restaurants and shopping without having to drive, and amenities in the buildings. But it is not as simple as putting the two generations into the same building.

“It’s a very different execution [for Boomers], with larger and different amenity spaces,” HFF’s Mark Thomson said. “It’s just as much about creating that environment where they’re not going to be sitting at the pool next to a 22-year-old.”

There are also more practical differences between Millennials and Baby Boomers, which will only become more pronounced over time.

“You also have to factor into the equation that before long, [Boomers] are going to need healthcare, beyond what pure multifamily spaces can provide,” Korman Communities’ Lea Anne Welsh said.

Because of this, there has been a rise in age-restricted multifamily communities, which Thomson said are being valued more highly by certain developers than basic multifamily projects. But everyone on the panel agreed that eventually, Millennials will come to the suburbs in greater numbers — but some wonder if the current multifamily product will be relevant to them.

“If Millennials are going to move out to the suburbs with kids and not want to buy a home, they’re not going to be renting one-bedroom apartments,” said Keystone Property Group’s Tom Sklow, who guessed that some developments “could need to redevelop into three-bedrooms before long.”

The same advantages the suburbs have always had — school districts, commute convenience and taxes — will drive Millennials to the suburbs rather than anything "cool." Creating the sense of place that defines urban neighborhoods is more about setting one's development apart from its neighbors than competing directly with the city.

Millennials may be inevitable in the suburbs, but the debate over when they will arrive en masse has real stakes, as developments are coming online soon regardless.

“We are expecting, as we get into this year and a lot more units come online, you’re going to see more concessions and a fight for renters,” Bozzuto Construction’s Mark Weisner said.

The Hankin Group’s Michael Hankin shares that concern, specifically in Exton, where more than 1,000 new units will be delivered in short order to a community that has not seen new multifamily product in a long time.

“So how is that [product] going to absorb?” Hankin asked. “And what will that mean for existing product?”

Anticipating that crunch, Hankin Group is already offering a free month on 13-month leases at its new community, Eagleview. Although landlords might be concerned over renters in the short term, investors have shown lots of recent confidence in the suburbs.

“If you look at brand-new assets coming out of the ground, the cost of dirt and construction, we’ve actually flipped the dynamic at the high end of multifamily, so you can buy brand-new for probably less than replacement cost," Thomson said. "When you look at the combination of the price you pay for the dirt, and if you have to build with super-high density, you’re going to be up at the $300k-per-unit threshold.

“It’s very hard to build here, and it takes a long time to get projects approved, and investors like that. When they look at what to buy and see what’s in the pipeline, they know what’s coming five years down the road, rather than being surprised by a new project plopping down next to [their investment].”

Even though the benefits of the Philadelphia suburbs have not changed, and do not look like they will anytime soon, the combination of new deliveries and high construction costs means that we may be entering a new phase of the development cycle.

“I think you’re going to see a lot of product get pulled out of the pipeline, even as the best products with amenities, school districts and transit will do very well,” Thomson said. “Then we could see real, 4-5% rent growth in about 24 months when these new products get absorbed.”

As market environments shift and certain elements in multifamily become more or less successful, it does not seem like the fundamental makeup of the Philadelphia suburbs will change much, if at all — and that is a good thing.