 My name's Bonnie Lipscomb. I'm Director of Economic Development. We also, as part of our department, also has our wonderful housing division. And I just want to recognize our housing team. They're all at the back right now. Jessica, Jess, Tiffany, and Andrea. Thank you for being here. Thank you for coordinating this event and the wonderful food spread at the back from Los Cerritos and Santa Cruz. So hopefully you haven't eaten and you have a plate of food. It's my pleasure today to have the opportunity to introduce Chuck DeFue. Chuck DeFue with National Development Council has done many wonderful things for Santa Cruz over the years and he actually started out, well, started out, but went to UCSC and so has ties to Santa Cruz dating back, I won't say how long, he might tell us. But he understands the Santa Cruz market. He's worked for National Development Council for a few decades and has extensive experience both in affordable housing development, economic development, and has been a great resource for us over the last decade here in Santa Cruz. Today's class, which is the Affordable Housing Finance 101, is really the very, it really is a 101. It's the very basic of how you pull together and how a developer looks at a project from a perspective of moving forward or not. Chuck's going to walk you through some pretty complex things but hopefully he's going to do it in an understandable way and get you to a case study and then get you to a Santa Cruz example. And then if you all are interested, we hope we'll be able to follow up with a course 201, but we will also send you some follow up materials from this meeting. Some of the answers that go to your booklet as well as some additional materials on actually financing some affordable housing projects in Santa Cruz, some real examples. So with that, I'm going to turn it over to Chuck DeVue. A couple of things. If you can, don't sit in the table by yourself because we're going to be doing group exercises. If you can move forward, that would be great because then we expect, to be honest with you, another 500 people. We don't want them to all linger in the back because they don't want to walk through the front table. Because we are going to do a couple of cases where you're actually going to use a pencil. If you haven't seen pencils in a while, this is a pencil. It's actually a graphite there. I've actually worked in pieces and played with some numbers and who things are in them. Because what we wanted to do with Bonnie as a part of your housing moment is we wanted to just do kind of a rose-gap over here. Kind of how do these structures basically work? I've really come in from a late person's term. Bonnie mentioned I started at UC Santa Cruz on the fight of an MS life. I put myself in school working at Palace Art Office supply. So all of you need to be shopping at Palace or any of you aren't on the supply or any of you are going to be top quality. But I was an environmental planning student at UC Santa Cruz. And they kind of got kicked out of town by my professor to go off and do some other things. So I went up to the University of Washington. I got a master's in it at the time. And then went to work for the city of Seattle doing planning, community planning, working like most community planners to be somewhat frustrated with plans not getting done and why aren't developers doing what we've held them to do. It must be because of the tax code or some reason it's not the plans. And so I started trying to figure out things and kind of following the old adage out of a water heater to follow the plan. Now I'm a plan, environmental planning at Santa Cruz, urban planning at the University of Washington. So I went to the finance educational network. I took classes at NDC. I was lucky I worked for the city of Seattle, which is relatively large city, doing a lot of things. So I think I went to meetings. Nobody understood why I was there. But Seattle's a relatively polite town, so nobody picked me out. So I could learn a lot of things around real estate. Then I took some classes at real firm, some of that. And then I actually started doing some real estate. And when I left this city, I had been the deputy director of the Seattle's Office of Economic Development where I managed most of Seattle's community finance programs for a long time. So in NDC, we're a national nonprofit based out of Evil, New York. But I worked out of Seattle, actually, in London, Rhode Island. We moved to New Virginia because it reminded me of my wife, our Santa Cruz, and all her friends. She managed the art supply store for Palace Art Supply. So the New York Supply divided the Palace Art Supply. Can't get this on the dead end now. But with NDC, we're a national nonprofit. We basically work with governments around the country on finance, usually where there's public money and private transaction. Complimenting that mission, we do a lot of training. So we do about, we've trained about 75,000 professionals. So this is some of the methods. And a lot of our client teams, we actually do transactions. So we advise, we train, so that's where I learn my finance. But then in some cases, in Santa Cruz, we have the World's Seattle Fund. That's a small business loan program. We have an SBA lending license. We have different entities that invest in law and housing tax credits. Historic tax credits, new markets. We build a lot of projects for government. So we're active in real estate. We advise cities around real estate, and then we train people around finance. So for today, we wanna walk through just the basics. And we're not trying to get to any kind of special technique or special programmatic approach to affordable housing. We're trying to look at kind of basic real estate and how to approach real estate and the right line, which are around real estate. So you can feel confident with that line within the engaging conversations. And the primary premise is, what can the market do? NBC bias, public funds are challenged. A lot of times, we're not giving our governments a lot of money to play with them. We hold them very accountable, those dollars are scarce dollars. So how can we get someone else's money in before the public money has to go in? So we're really trying to work on the private side as best we can, trying to make it do what we can get it to do before we have to commit public resources. So include as much as the benefit of the public resources. This is gonna be awkward, because this is fixed, but I'm a pacer. So we'll see how this goes. So what is the housing problem? Now again, I came from Santa Cruz. Now your problems are actually very similar to the problems I've worked on in Seattle, which is also experiencing significant growth. Also very similar, I work in tax and hold for a number of years, where a lot of your problems are similar to ski areas and other kinds of things. So Santa Cruz is always unique, but you have similar areas with a lot of other places as well. So the problem depends on who you are, whether you're an employee in Santa Cruz. I was lucky when I worked here, because even though Santa Cruz has always had a big affordability gap, it wasn't as big of a gap then. So I could actually live in the downtown, walk to Palace Hart and I bought the supplies. So if you need our office supplies, make sure that you shop at Palace Hart and I bought the supplies. So whether you're an employer, trying to attract employees in Jackson Hole, the vast majority of their housing stock is owned by employees. So if you're an employee of a company, you're breaking from your boss, just like in old days. So it creates a very skewed behavior between that employee and their employer and what happens if they want to leave their job and they lose their home at the same time. Whether you're a first-time homebuyer, again, a homeless family or person, historic preservationists, because we don't want all this growth to destroy the history and the cultural buildings that are important to us. But from our standpoint, most housing problems are economic in nature. There's fundamental underlying issues around the economics of those that create these problems. And so in that case, then we believe that most of the solutions have to be economic solutions. There's two basic problems we're trying to solve. One is affordability. Basically, that a household cannot pay the cost of housing. Again, a lot of statistics in Santa Cruz around how few people, if we think of rent challenged, is anybody that's paying more than 30% of their income? You know, for a house, and that's the usual standard now, the percentage of people that can't do that in Santa Cruz is 67%. So two-thirds of your renters are rent challenged. So there's a affordability issue and that lack of investment, meaning the costs exceed what people are willing to pay. Even in the economics of Santa Cruz, we're gonna play with some examples to see you have a low vacancy rate, relatively speaking. And most of this, when we think of our supplies in the end economics 101, if we have a low vacancy rate, that seems to indicate there should be a lot of demand for housing. If there's a demand for housing, market should be responding to provide supply for that housing. But we're not getting that to happen. There's something going on there that's interfering with our basic economic system. Generally it's where costs exceed what people are willing to pay. So these are obviously your headlines. I've seen these headlines for a long time. Santa Cruz County needed 12,000 affordable units. These are all pretty recent Santa Cruz having the distinction of being the least affordable city in America for teachers. And then the other one, again, the least affordable, consistent headlines that Santa Cruz has had for a number of years. So although many goals of housing are social, housing is market driven. Supply is determined by investors and developers where capital is going. And demand is a function of what households want and are willing to pay. At some point they can only pay so much. So what determines housing value? Rental income or sale price? One of the things we'll walk through in this workshop is to recognize that that housing, the value of housing is not the cost to build that housing. The value of that real estate is based on the income generated by it or the sale price of that home. We have vacancy rates that's still in Santa Cruz. You have some units that aren't occupied. So we have some discounting that happens. We're not gonna collect everything. Cost of operating that real estate project. Management, taxes, insurance, so forth. But then the cost of an availability of debt. Right now, obviously we've got probably the lowest cost of funds I've ever seen in my professional career. Now sometimes that is coming to play in the real estate market. Sometimes it's not. Because sometimes if the cost of funds is really low the banks actually start to adjust their underwriting criteria to kind of not let so much money get out the door. So it's not like if the funds rates drops another quarter point it's gonna drive a lot of capital into these product checks. So right now we have very low cost funds and it's relatively good availability but it's still not solving the problem. So how do we respond to the market? Well we have to know what households want. How much households are willing to pay? Everybody wants to get to that 30%. And then once the most profitable, if I'm a private developer with private money I've got investors that are giving me money. They're gonna move that money to whatever is the most profitable. And really in that case there for that the market place is acting no different than we do. You know what we're managing our 401k or our other kinds of retirement investment funds we do the same thing with our own money. We're kind of naturally driven to how we can maximize the return on that money. I've been actively involved in Opportunity Zones now which is not the topic of this conversation. What we're trying to scoff the elusive investor in Opportunity Zones which is a social impact investor but actually we'll take a low yield on their money. And then we see a lot of social impact rhetoric but I don't see the returns that they're asking for being significantly lower than what a normal return would be. They just want the impact on top of it. So we still have a challenge of money that wants to go to the most profitable project and how that works in our housing. And in general the private sector can't provide affordable, decent safe sanitary housing because of those cost imbalances. We have public assistance that's involved in lots of different ways and you're playing with them within your regulatory environments now. And a lot of that is frankly just a matter of the matter. And we'll try and get again to work on that math tonight. So I want to talk a little bit about one of the things I want to do in this early piece is kind of walk you through the development process. One of the things that was important to me when I was going from being a frustrated planner to doing more of being more engaged in community development is I had to understand the development process. I wasn't a developer. I wasn't an architect. I wasn't a contractor. So there are a lot of pieces of the development process that I had no idea was going on. Things that were happening, other people that weren't involved that I didn't know about. So again, if you haven't been involved in that kind of detail, we want to give you that sense of describing the role of the investor in the lender is that's where the money's coming from. So what are those effects folks tend to be? Well the investor is a profit maximizer. Generally they want the most amount of return on their capital given the risks. So the investor, the highest return for the economic benefits they receive, their ROI is those economic benefits divided by how much they put into that investment, whatever it is. They could be alternative energy. I'm trying to find some investors to invest in ice making, ice making, machine or any of them for the cool use out on the Washington coast for their fishing industry. Whatever that investment is, we're trying to maximize investment from the investors standpoint. So low and moderate income housing, so housing that's kind of below market, 80% AMI below. Again, tends to provide marginal returns. Rents are lower because we're constraining rents recognizing that in these projects we're setting rents based on affordability, not necessarily based on what the market is. Vacancy and collection could be a little bit higher depending. Again, debt could be hard to get the terms difficult. So you might have low loan to values where a bank that's lending to those projects may have a lower loan to value than a higher loan to value. A lower loan to value means that that lender is nervous and is hedging their bets for not providing as much capital to that project. Or they'll have a high debt coverage and you'll get the joy of working through what these ratios mean. But a lender will protect them. Is the debt harder to get because of those other three factors that are up there? Does that one make some lenders skish? It's a combination of the two. The debt may or may not be harder to get depending on the individual circumstances but how much they'll provide will be affected by their nervousness with the project. So I still may be able to get to a loan but if the only lend me 50% value then that doesn't give me as much money as somebody else that they were gonna get when loans at 65% of value. So it just depends but they're interconnected. And they'll only give you less because they see it as a riskier loan because of those lower rents, election issues, et cetera. That's right, it's not acting like the marketplace. So it's unusual for them to not quite sure how to deal with it. If there's a default, so again the lender behavior but if something goes wrong they have fewer avenues to go down. And so they hedge their bets. And I found that I was working in a lot of low income communities where frankly it was interesting and you probably know this even from Seattle areas where it was easier for us to interest people who were from out of town because they would trust the numbers. If we talked to somebody locally they would bring their bias about that area. Well I don't care what those numbers are for that grocery store, I know that neighborhood and I don't think it's gonna work. Well but the numbers says it should. So you get a lot of that kind of inherent bias built into this system as well. And again you might have short amortization schedules meaning that I'll lend it to you for a shorter period of time. I'm not sure I wanna be married to you for 30 years, maybe it's a 15 year long. And a lot of these projects we have little appreciation because again the value of real estate is based on the income. So if we constrain the income because of rent it's not gonna rise in value as much. So for a lot of people who are into real estate because they like the tax benefits they come from if they like the appreciation these kind of projects don't help them in that area. So it just becomes a constraint for them. Now a lender is the opposite. A lender is not a profit maximizer. Now I've been around a lot of lenders unfortunately. And whether it's a private lender or a public lender it's behavior is behavior when you're a lender. Whether it's the psychology of a person makes them go into lending or the business of lending turns them into that personality. But there are risk limiters. Nobody wants defaults. Nobody gets rewarded in the lending world if they lose money. Even public programs, right? If we have a loan fund we expect a loan fund not to lose a lot of money. Even if we ask it to do lots of things. We want repayment of principal at market rate of interest but they don't want necessarily a bottom-up market rate. They just want to get their money back. Lenders are like the e-or of the real estate world, right? I mean they're always the what about, as you think of, it's almost impossible to get a yes or no decision out of a lender. There's always more of a what did you think about? Well, let me go take that to my credit officer. Well, what about, they have a question about this. Because they're e-or is because they're always trying to worry about, are they going to get repaid? And after the recession, we saw a lot of, we go through these cycles of lending problems that we kind of have to then correct ourselves. Personally, we don't want them taking a lot of risks. Because we know when these historically, we are all the ones that then bail out the financial world when they take too much risk in these things. So like I say, developers, again, whether they're nonprofit developers or for-profit developers, they are relentlessly optimistic, typically entrepreneurial, lenders are skeptics. So the developers are tigger, the lenders are e-or. And that should tell you exactly what's going on between the two. And I was in IBM meetings, and not before I took NDC classes, and this is exactly the case. The lenders, I could never figure out why they were so pessimistic. And developers were always, oh, whatever the problem is, I can take care of it. There was no problem that was unsolvable, I'll give that to you tomorrow. Because you can't really be in the development business without being an optimist, because you're constantly solving problems. That's just what that job is. And so their business objective, again, lenders is to limit risk, developers just maximize profit. Even nonprofits I work for, they want to maximize profit on other projects. Because we expect nonprofits to do a lot of other things that they don't get paid for. So they need to be efficient with their real estate. In a rental housing like most real estate, we have three basic cash financial benefits that accrue. Some of this has gotten more heightened with the tax reform act. And our president, but we know that we have tax benefits that come with real estate. We know that in general there's appreciations for our real estate goes up in value. In Santa Cruz, everybody is really excited when they finally get to buy their house in Santa Cruz. Because now they've kind of hit the lottery. Because at some point, when they retire, that home is going to be worth more. And it will let them go to some other place. And then there's cash flow. We expect it to be cash. Coming from our project, we expect it to go up in value. And we know that there are these tax benefits that can help us as well. So in most private projects, it's cash flow and appreciation. So I know a lot of developers that are going to get tax benefits. But their decision to invest capital is based on cash on cash. So what's the real cash that's going to come to me? I know I'm going to get my tax benefits. But what's the cash? And is it going to go up in value? Is it going to go up in value in a way that's going to deliver this extra benefit to me? Whereas tax benefits are the most important in low income projects. Because, again, we're constraining income, because we're constraining income, we're constraining depreciation value with that real estate. So if I'm going to invest in it, it's going to be because of the tax benefits. So what are those tax benefits where there's income deferral? So you didn't know you were going to get a tax workshop here. And then there's tax reduction. So just like your personal income tax, real estate allows you to defer, typically through what's called depreciation, and we're not going to get a complex. But basically you get a credit for, you get a discount for the wearing out of your real estate. And you get to offset that from the income of the real estate. And so what it does, it reduces your tax liability. So if you do personal productions, you have a schedule A personal, you get to reduce your income with all of those productions. So it reduces the tax you owe because it reduces your income. Now when real estate, at some point those taxes come due, when I sell the project, what I sell it for versus what those benefits I've gotten, you've got a capital gain. And so then you have to pay tax on capital gain. And that's why you've seen a lot of, a lot of rhetoric related with capital gains as it relates to office community zones to further invest in low-income communities. Or even the president's talked about indexing gains to reduce the impact of that capital gain. But we get the benefit of reducing our income, which reduces our taxes. And then there's also income tax reduction. So we can actually get credits. Most of us personally can't benefit too much from the credits themselves. But low-income credits, rehab tax credits, alternative energy credits, other credits that are in the tax code where once you determine what your taxes are, now I can take a credit and offset my taxes dollar for dollar. So you may have a green energy credit, buying a car on your federal taxes. And again, once you know what your taxes are, you deduct it right from there. So it has a much bigger benefit for you than just the reduction. Appreciation, we all know pretty well. We take the selling price. So what is that project's value in the future? Subtract out what it costs us and that's the appreciation of value. We buy a home now with whatever, we sell it in the future. That difference is the appreciation. And then cash flow, that other benefit. Again, we take the income of our project, all the monies that we can collect. Rent could be parking, could be storage units that we rent, could be a laundry. I work on a shopping, on a commercial shopping center, where one of the major income streams was the money coming through the pay phones. This was a long time ago. Nobody does pay phones anymore. Lots of ways in which our projects earn money. We have direct operating costs, insurance, maintenance, taxes, we may borrow money, so we gotta pay whoever our lender is. So we collect our revenue, we pay our expenses. Whatever is at the bottom is our cash flow. The cash that goes into our pocket, we can then use it for anything we wanna use it for. So low income housing projects, again, tend to be weak on benefits because cash flow was restrained because we're not allowing it to be robust. Again, appreciation is doubtful. So when these projects, those tax benefits become the major source of subsidy. You know, the capital gain subsidies that we have, again, tax credits that we have, property tax issues, all kinds of other areas in which we're working on the tax issues to try and make those projects work financially. So in housing development, finance, things that we're trying to do to try and make projects work, generally we're trying to increase leverage, meaning that we're trying to increase how much borrowing a project can support. Because if we increase leverage, if we increase debt, we reduce equity. Remember, I'm a planner doing finance, so I try to keep things really simple because I'm a planner. And in real estate, there's only two sources of money in a real estate project. It's either debt or it's equity. There's no other money. It's either debt or it's equity. So your cash returns or financial returns depend on equity, all right? So if I can increase borrowing, because generally investors have a higher return requirement that a bank would want on their loan, if I can increase borrowing, then I can reduce equity and increase the return from that project. We'll play with the math to show what that does. So we can increase owner's return. So we're looking for different kinds of lending products or again there may be public products that come into play to try and again help fill some of that gap to increase leverage. Or we can enhance security for a lender as long, but again we want someone else's money in. So we might fund reserves. So we provide a hedge. We can provide partial guarantees. Again, have a debt service agreement. We're depending on what happens. We might step in to protect them. So the lender's looking at some other health than just the project itself. So different ways in which we kind of work on the housing finance side. I'm gonna go through this again relatively quickly because again I wanted you to understand the different players and the different roles in development because I didn't know this when I started. So major actors obviously the developer, nonprofit for profit, they do a lot. There's a lot of anxiety in this work whether you're a nonprofit developer or not. So desired benefit of market return are better. If I'm gonna go through all this hassle, I should at least get what my normal return is. So in all the projects I worked on from the public side, we were never looking at trying to enhance their return beyond what it would be ordinarily. It's more of how do we make sure that they get a fair return? No more, no less. Because if it's less, they won't do it because why would they? They could go do some other project that is equally frustrating and complicated and hard. So it's a fair return, but it's not a better return. Again, the appraiser that you won't necessarily see or hear about, but if you buy a home, you know the role of the appraiser. Third party person establishes value. Again, the key thing here is just recognizing the appraisal process is not as much science as appraiser is like to think that it is. Appraisers hate talking to people. They just like to just do their analysis and spit out numbers. If you're involved in a real estate project, make sure you talk to appraisers. Because a lot of times the appraisers are wrong. I mean, I live in Seattle, Seattle has a lot of hills. We're one of those cities with a lot of hills and valleys. So you could, if you were on a hill, but your home was worth a very different amount than if you were in a valley. And appraisers tend to work off of a two-dimensional map with a raw line around the site. They lose track of, well, now I'm looking at a comparable that's in the valley, it's different. So the key thing with an appraiser is a third party, you almost never know who they are, but you're paying for them. Make sure you talk with them, figure out what they're doing, because they determine value. Lenders by law have to lend against that value. So it's another key actor. Then we have our lenders, hopefully they provide the bulk of financing. There are lenders who lend during constructions, and lenders who lend for permanent purposes once the project is operating. They could be in the same bank. So I work in the same bank for construction purposes. I'm working with the construction lending side of the bank. And then from the permanent lending side, I'm working with the permanent lenders side of the bank. They still behave in a different way, because they're lending on different pieces. But if I'm lending on construction, I don't have income to pay my loan. I have to worry about is the person going to get the project done? And are they going to get at least up somewhere where my permanent loan will fund the payment law? If I'm a permanent lender, I have to worry about cash flow. Can you really do what your project projects to do? Can you get it at least up? Can you rent it at what you say you're going to rent it to? Can you operate it? But it'll be two different people with different perspectives. Again, very risk averse. Desired benefit, adequate return with minimal risk. And the risks are significant. Even in Santa Cruz, where you would think that everything is risk-free here because the market is so strong. But we have pre-development risk, so before a project starts to move forward for construction, there's always a risk that it will never make it to construction. And you can imagine projects around the city where it took them forever to get to construction, for lots of different reasons, something never will make it to construction. Different question? Yeah, I guess I'm a question of the risk that the developer takes, non-profit or profit or low income or market rate. So they speculate on a piece of land because of general plans that you can build X. But when they go to city council, the city council says, no, we don't really mean that, we want less density. How does, what's the repercussion on that for that situation? Because it's that simple of the deal, it's eliminated, it just won't happen? Well, there's lots of different things. Because obviously politics is politics. And this is one of the reasons why Santa Cruz won't go plantar anymore. But the reality is there's that simple. That's part of the reason why there's a lot of risk there because the project may not happen. You may end up finding there's environmental contamination you didn't know about, right? Or there's other things that happen. I've seen projects, I mean, one of the things we went through in Seattle is all of a sudden we had Chinook salmon named as endangered species. We eat them every Friday. But they're endangered. So every one of our land use actions had to look at its impact on salmon. And it slowed down a lot of things. It's just part of the process. And the risk you have in pre-development is for lots of reasons, you may never get the ability to move forward. For lots of reasons. You couldn't be regulatory. I've had projects where the local church decided they hated you and they brought all their people out and so you didn't get the permits. You know, the planning mission didn't improve it, whatever. Just lots of things that happened that some of our outsiders control. But it means you're bearing risk that the project may never happen. Yeah. A lot of the developers here look at it as in when they're figuring their timelines that probably at least two years for litigation in the middle of everything. And so that's the money's running on the loans that they're stuck. And you know, there are projects in Scott's Valley that when I started in real estate in 1981, I talked to the original owner. It still hasn't been built. And so it's over almost 40 years and they still haven't figured it out. That's expensive. Right. No, that's true. And you know, and one of the things of just, because obviously there's a lot of issues that come up. And when you see how, it can take you three years to get a permit. Because every place has its issues. And what we're going to see when we start to get to some numbers, there was a cost to that. And I think the key thing is for all of us to understand that. So one of my frustrations as a planner is we spend a lot of time planning. But we never seem to really answer all the questions because then we revisit all these issues after we've done our plans. And some of that is just because of politics and we didn't really know what we thought we were going to allow and sometimes just what it is. But you're right, there is a cost to it because when you're in that pre-development phase, nobody's lending on that. Right, that's your catch. If you're a non-profit, your biggest need for funding is pre-development funding because nobody will lend on that. Because it's the highest risk money because you may never, ever, get to construction. So there's no hope of recoupment. And Santa Cruz is ground zero for we're an endangered species. We are recognized by the UN as a hotspot for biodiversity. And that's a part of the survival in climate change is right here. And we have to be careful about that. It's not just some people being arbitrary, it's important. No, that's right, absolutely right. That's why I think to me, this is a process that we have to figure out. And it's a cost issue that we have to understand to see how it's impacting the cost of real estate for good or for bad. I mean, it's just, here's what it is. So let's just figure out how we deal with it. Yeah. Given the risks, what's the fair return? I'll get to that. Hold that question. Hold that question. So what's the possibility of a jurisdiction decreasing or clarifying zoning regulations to the extent that it would actually reduce risk? Is that a path to reducing risk to clarify or stabilize zoning regulations or make them less complex? Or is that kind of chasing after shadows? Well, to be honest with you, I don't, I mean, there's lots of potential answers to it. But because I stopped being a planner a long time ago, you know, I don't want to, I think that there's just things that we need to do to be better, to provide more clarity. I mean, I'm on a little island, in the Bainbridge Island, where the size of Manhattan with 23,000 people, right? And we're fighting over subdivisions all the time. You know, we're fighting around what our land use code allows versus what our plan says. It's, this is not anything that you're unique. It's just that I think as you go forward with some of the things you want to do, you just have to figure out where that is, what's the expense of it. Is there a reasonable way of trying to provide clarity? So there can be a little bit more certainty. If there's uncertainty, I think one of the, well, if there's uncertainty, then the return risk go high, right? Right, because the less certain you are when you return, the higher the return's gotta be free to put them on your wrist. Right, if it's more certain your return should come down. So it's gotta be part of a conversation. I don't have any answers because I don't want to be a planner. One of the things that Santa Cruz has done that's really great in my real estate time is that the GIS printout that we get on each parcel, so that at least as a start to recognize that this is in the Siamese sandhills or this is in a flood zone or this is, and so that it's, before I start to type, I got some information that says no way are we going there. Right, not every way. Last question before the one. I just don't make a comment in comparison to the past where you could have a project that I might be able to do 80 units on it. I know the 60. Recent legislation of the state, if you comply with the general plan and the zone, you can get to fill that. And there's density to bonus that adds units that you could not be forced down to do less units anyway. So that's more, let's take it some of the risk away. And if there's a contradiction between the general plan and the southern plan, you go with the general plan first. And then whatever's left in the southern plan applies. So it's better for developers. I have a penalty for building less than 10,000 per unit for the jurisdictions. Yeah. So I'll move on because I'm not a planner anymore. So assuming we maneuver all of that, you know, your, you know, your Santa Cruz process and we get to construction. Well, there's also a risk of construction because we could, we worry that we have insufficient funds to complete construction. When you close on financing for your project, right? So you know, you think you know what it's going to cost to put in some hedges. You've got your money in one. You don't want any surprises because it's really hard to go get more money once you start a construction. Very hard to do. So you need to make sure that that construction goes well. I'll just say again, I don't do a lot of construction review. All the Dutch say it's a different world. All kinds of things happen that are weird in that world. And there's all kinds of advantages being so in that world. So managing construction is not an easy thing. And you worry that construction doesn't finish the job and they might have bid low. One of the things I'll tell you right now is a bid process doesn't guarantee you the lowest price. It only guarantees you a price. For the most part, with all the things going on, you all want to be selecting contractors based on their qualifications, you know, and their competencies not based on low bid. We've seen so many projects where someone will come in and take a flyer at a price and get a contract. Then the only thing they can do to make money, they need to, they need to change orders, then they don't need to change orders. And it just gets, I'm just saying that it's a really evil world. Or the developer goes bankrupt. Because again, once you started construction, there's no new money coming in. The developer has to have the resources to carry it to get it done. But we've seen a lot of developers go bankrupt at the very time, so you don't have money there. So you might have a project that sits unbuilt for a long time. Or construction stops, or you'll see the project where construction all of a sudden goes really slow. Because now their cash flow is tight, so they're trying to kind of squeeze this thing out. All of it during that construction phase, where you have money at risk, construction lending is typically more expensive than permanent lending. And you gotta get to the finish line. And then the stages that they're going through, again, I'm just gonna show you these. They're in the book. And again, this is just to kind of, again, recognize that development business is tough. Creating that concept, testing the marketplace, who's willing to pay, what they're willing to pay for. The unit mix, the size of the units. All of those feed into the development program that's gonna leave the costs. They're determining financial feasibility, evaluating the site, and does it have some issue on it? They didn't think about how much is it gonna cost to build what contractor they're gonna use. And then constructing their pro forma in income and expense statement. So again, keeping real estate simple. There's only two documents you have to worry about in real estate. Regardless of what somebody calls it, there's a development budget. So there's somewhere there that's an assemblage of all of the costs it's gonna take to make this thing happen. Development budget, it can be called different things. And then there's an operating pro forma. You can have financial summaries that are multiple pages, but at the end of the day, there's a development budget with the sources and uses, source of funds that balance your use of funds. And there's a pro forma, which is the income side of the project. Now it's constructed. Now we're operating, we've leased it up. Now, how does it perform financially? How do we project our income sources and rent rates? Projected vacancy rates and expenses for that project? Remember, you're projecting if it takes you to equit construction, could it be 18 months to 24 months in Santa Cruz? So you're projecting two years from now? What's it gonna look like two years from now? Did I hit the mark on rents? Did I hit the mark on expenses? Is there some other cost that came along in the meantime that they didn't know about? Know that it affects my pro forma. But in a real estate project, there's a budget and an operating pro forma. And this is what a pro forma will look like in a simple way. So there's lots of complexity to a real estate. We start to play with excels, spreadsheets. We can bring a lot of detail to it. Some of that's good and some of that again keeps it mysterious for us. But at the end of the day, the pro forma has gross rent. So what's the income that we're gonna collect from our rental units, assuming 100% occupancy? Do we have other income? Again, parking, storage sheds, other ways in which the renters pay something but it's not grant. It's money they pay in some other way. We know we're not gonna collect everything. There's gonna be some hedge. So what's that hedge? 5%, 7.5% what's common in the marketplace? To get to effective gross rent, which is really now we figure out what we really think this product's gonna do. We've got all, we know we're not gonna get everything so we've hedged. Now this is what we really think we can plan on. Then we start to go for our operating expenses. Again, taxes, maintenance, insurance, utilities, management fees, replacement reserves. Some I've seen in most affordable housing products have a fairly robust amount of reserves that are held there. In some private projects, I don't see as much reserves. It just depends on access to funding. Take our effective gross minus operating expenses that gets us to NOI, net operating income. The most important number in real estate that almost should be whispered in NOI. Because it's at NOI that you know whether you have a real estate project. If you don't have revenues exceeding expenses, you don't have a project. When the tax code was fixed under Ronald Reagan way back when it changed the rules. We had a lot of real estate that was built solely to lose money to shelter income. After that in 1986 and still confirmed now, any investment has to be intended to make money. So if you don't have revenues exceeding expenses, you don't have a project. It's that important. When we get to NOI, now we can determine how much will a bank lend to us. Once we get to NOI, we can figure out what will the market value of real estate for. But again, it helps us with determining its value of a bank will lend to us. So how do we do that? Well, calculating rents is pretty simple math. Again, I'm a planner, so this is all simple for me. You don't have to do anything that your phone calculator, you know, that you don't need an Excel, you don't need a 17B, though I have one here. So how do we compute our rents? Obviously our rents are the number of units we have times the rent for that unit times 12. Rents are typically been residential. Rents are typically quoted as a monthly number. So if I have a studio, I'm charging the studio 500 a month, each month for 12 months, so I'm always annualizing. Oh, shoot. Oops, sorry. If we're in commercial space, again, commercial typically is quoted annually. So you just have to know the convention. We're always trying to annualize things. This is an example of a cash flow from a project I'm working on. And you can see all the ink that escalators, residential income, affordable rental income, that's market rate. You can see other income that's being generated that's parking and other things. Then you can see all the operating expenses there getting to NOI. Then at the bottom, 2.76 million dollars. So it can be as deep-hilled as you want it to be where you can simplify it. We prepare our sources and uses for funds for construction and permanent. So what are all the costs that must be funded? So your development budget really has to cover everything. So it's surprising to me how many people will miss some things in their development budget. Even to a point, with projects I've been involved with, where we even itemize wire transfers. When we do our construction loan, the bank's gonna wire funds, they're gonna charge us 500 bucks to do that wire every month or whatever it is. So we're gonna budget that. Some banks I've seen actually require us to do a title report for every draw that we do because they wanna make sure that nobody's leaned the property before, you know, ahead of that draw. So a title report that could cost us 500 bucks. So the development budget has to include everything because you don't wanna be surprised. And then you're identifying what funding sources will be available to cover these costs. See the debt or exactly. So here's the development budget. You can see all the categories on the left-hand side. Some of those costs are incurred during construction and some of those costs are incurred after construction. So we might have things like a developer fee, rent up reserves that are paid after construction is done. So I don't need my construction loan to necessarily cover those things. The development fee is usually the last cost that's provided. So the developer fee is really a contingency. You want a developer fee in a budget, but the developer fee is really an additional contingency. It's usually only paid if there's money remaining at the end of construction. But there's different time frames in which those dollars are incurred so you can make your lending accordingly. And again, then you gotta secure financing. Again, you obtain a permanent loan commitment. What's ironic in the financing world is you don't get a construction loan first, you get a permanent loan first. Because the construction lender is really gonna get paid by the permanent lender. So the permanent lender needs to review your pro forma and determine how much they'll lend, how much they trust your operating assumptions. And then once you have that permanent loan commitment, now you can have a more meaningful conversation with your construction lender. You'll be talking to them, but they're just not gonna make any commitments. They're not the first ones to commit, even though they're the first money that's being used in the project. So just a reality check based on our earlier discussion. Those permanent lenders realize that this thing may be a decade away, but they're still willing to say yes, I will lend to you at that 10 years out on the, and you can use that guarantee to get your construction loan. Well, I think you're being facetious, saying 10 years out. Well, it's a very standard. So a permanent lender will make a forward commitment, right? They'll have conditions. So they'll talk about pre-leasing that has to be done before their loan will close. So they'll have conditions for their loan. They'll talk about their rate, and it may be a rate that's indexed to something, because nobody knows what that rate will really be. But they'll provide a letter of intent or a soft commitment depending on how close you are to your project being done. You can get that. So they're actually going to, so you're saying this is the loan you get first, but the construction loan is the one you're actually gonna use. So does this loan, they actually give you their 50 million dollars? No, no, no, no, no. I mean, they're giving you a commitment. So you would end up executing documents where they're committing and their commitment letter will provide those specific conditions of their funding. And you use their letter to get the conditions. Their letter is what the construction loaner is gonna use to determine how they're gonna lend to you. Yeah. Obviously then you develop, you prepare the final drawings, submit proposals, oversee construction, not an easy thing. And then you operate it again, not an easy thing, because you have to make sure this property works or you have to lease it up. So the circumstances may change and lease up is slower. I mean, your permanent lender is gonna have lease up requirements. So if your lease up goes slower, we thought we would have all our units occupied in six months, but it took us 12. So that means your permanent loan stayed out for those 12 months. Your construction lender was carrying that, which means you're paying more interest on the construction loan. So it's the lease up, it's then the operations are you being efficient, again managing the real estate. Again, not an easy thing to do. So again, going back to our pro forma, we got to NOI, we had our debt, subtract our debt service, how much will our lender provide to the project? And then we get to cash flow, what happens, what goes into our pocket in the day. And really that same summary is in the forms here on the desk. So what you have on the desk is a simple pro forma and you have a development budget. It's a different version, but exactly the same contents and the same things. So this is an example, I've got my NOI. Up in Seattle, we have a tax update program for housing. So I've got my NOI there, I've got my asset management fees, then I've got my financing. In this case, we're borrowing $40 million. I've got the rate terms on that. Then you can see my cash flow after debt service down here. And then of that cash flow, we're splitting it between the non-profit partner and a private investor that's investing money. So exact same criteria, a little bit more complexity because the project's more complex, but same concepts. So how do we estimate what the bank is gonna lend to us? Well, again, this is NDC, we're doing old school. You don't need a fancy calculator. Well, in the old days, you'd have what was called a loan constant, which is the weighted term and interest cost of a loan. So banks are gonna provide an amortizing loan, amortizing meaning like your home mortgage. You make one payment. That payment includes principal and interest. So it's the same every month. At the end of the 30 years, now it's paid off in full. No, you get the de-back. So they can provide a loan constant. So if we wanna estimate debt service, then that's the loan amount that the bank is, that we're hoping to get, times that constant. And we can determine that constant by looking at our book because nobody knows mortgage constants anymore. We actually had a guy on our board who does a lot of real estate that still has a constant table that he uses. But if you go to page 36, because we want you to be able to do this, but not have to worry about your financial calculator or whatever, so constant charges. So all you're doing is you're looking at what's the banks' loan term and rate. So if I wanna get a mortgage in Santa Cruz today, I would probably be able to get a 30-year mortgage, right? So what would be the rate that I probably would get? Is it about four, below four? So four and a half percent. So if I go to year 30, page 30, and I go down to four and a half percent, so I see a constant of 0.0609. So 0.06, so that's the mortgage constant. So I would take the loan amount, a million dollars, right, that's what it costs to buy a house in Santa Cruz nowadays, heard of that. That's a lot more than what I'd pay. Okay, then million dollars times 0.0609, that's your annual debt service. So even though the interest rate is four and a half percent, the mortgage constant is 0.0609, it was for 6%, because it's factoring in the principal portion of your payment. So the constant is doing both principal and interest. But for our purposes, the simple thing is what are we borrowing? What's the bank term? We go and get that loan constant. Loan amount times constant equals debt service. So that is one. Now the reason why I like real estate is that, fine, it says this is an algebraic formula, right? Three variables, algebraic formula. I crushed algebra. How could this crush me? But algebra I can get. Three variables, you have to know two variables, solve for the third. So you can check your math, you can go back through it, am I right? Oh, I'm right, okay. So three variables. So if I wanna figure out the debt service, I have to know the loan amount. The loan constant comes from the bank's rate in turn. Right now, because it's algebraic, I might move those numbers around. I may wanna figure out how much loan can I get, right? I mean, it's an algebraic formula, so I'd have to know the debt service, and I'd have to know the constant, right? But if I wanted to do that, so if I went through the, you know, do this, and then cross through and cross out, that's the formula that we get, because algebra, which is great. So that's how we determine the debt service. So if we're going through our pro forma, revenues, vacancy, expenses, and a wide, what's the bank that'll lend to us? Loan amount times constant gives us debt service. Or if we know what the debt service is, we know what the bank's terms are, divided by that loan, that mortgage constant, tells us how much the bank will lend to us. So we can, so the bank will tell us how much the debt service will be, or we can tell the bank what we think they'll lend to us, go either way with it. But it's algebra. So on our spreadsheet, you know, now we can go down and add our debt service. So this is that cash flow after tax. We're not gonna worry about that, because that's after tax, and we don't wanna get through taxes today. So key things in measure, so how do you determine whether you're gonna put your money at play? Well, there's rates of return that you're gonna depend on. The first one is I talked about, for most developers, it's cash on cash, which is cash flow divided by cash equity. Literally cash on cash, because finance is so sophisticated. So how much do you get, and how much did you have to put in? That's a cash on cash return. And that's really the fundamental return that we see from nature. And that's an algebraic formula, right? Cash flow, a lot of my cash. So you control your pro forma, you control what cash flow is, right? I wanna show an investor what return I can give that investor, so I have to know how much equity they're gonna put in. But sometimes I may not know how much equity they'll put in. So I wanna solve for equity, but if I'm solving for equity, I have to know the other two. What would be the normal return in the marketplace? If I know that and I control cash flow, then I can determine how much equity I can expect to see in this project. So the key thing with finance with these algebraic formulas is you don't always get the, you don't always get the, you're not always solving for the answer that you need. But you can use the formulas to be able to manipulate them in an algebraic way to get the answer that you need. So I may know what their equity is, and I can give them a return. Or if I know what their return expectations are, I can tell them how much equity they should put in the project. So different returns, again, this is the key one. You'll also hear IRR, or internal bread of return, which is basically more complicated algebra, but it's recognizing that your real estate is providing return every year. Each year you're providing cash flow. So each year it kind of has a different return to it. So how do I figure out what the real return is for my project? Well, I can do what's called a present value of those returns over time, more complicated math. You would need more than just your phone calculator. But that's what IRR is. It's taking into account that the dollar I'm getting five years from now is not the same as the dollar I get today. I'm discounting it back. So the math is more complicated. But again, I don't see a lot of people make decisions based on IRR. When you run your performance, you can run an IRR out as long as you want. But the main decisions are cash on cash. Because that's much more immediate and much more, much closer. So now back to your question about return. So I pulled this out of the Wall Street Journal. It was two weeks ago. So different yields. Cash flow yield from real estate is the same as yields coming from other kinds of investment that I could put my money to. So the thing that's interesting to me is, so if I'm in the S&P 500 Wall Street, so I'm on Wall Street, I'm in the market, over that period of time, the market obviously has gone up and down a lot this year. It's been soaring, it's been collapsing, it's been soaring. Average yield 2% over that time frame. High-grade municipal bonds, 4% and so forth. So when you look at where other money is, so if I can go into, right today, 10-year US Treasury, it's about 1.75%. So if I trust the federal government for 10 years, I get 1.75%. If I put it in Wall Street, I get 2%. So what is my level of risk and what am I prepared to put my money at risk for? So there's no real answer. I mean, I've seen anywhere from nowadays, I've seen yields as low as 4%, 5%, cash on cash returns. I've seen them as high as 18%. I mean, I don't know what the reality is because it takes a while to get into the details of the real distributions. But there's a whole gamut, there's no one answer. It just depends. If there's a lot of investor cash out there, there's more competition, the rates are gonna go down. What I've seen in the West Coast, because none of us in the West Coast have been able to control our construction costs. Our markets are stabilizing, rents aren't necessarily soaring, but our costs are still high. So something has to give if you're gonna develop real estate, yields are coming down. So now I'm seeing investor yields that are at 5% to 6%. That we can get it. Yeah, I think you give those in the pay area because of that. But the real answer is it depends. It depends on what your project does, where I could put money elsewhere and how I perceive those risks of me getting my money back. And then the last measure that we're gonna go over this and then we're gonna let you actually kind of get to some fun with the cases is the overall return in real estate or what we call a capitalization rate. Which basically reflects the overall cash return on real estate. So when you look at what the key thing here is if I'm looking at what buildings are selling for in Santa Cruz. So a building is being sold. I can look at what income is that building generating. What price did somebody pay for it? And I can determine what's the rate of return they require to make that transaction happen. And I can look at different transactions in the area to figure out if there's a pattern. What are investors doing in Santa Cruz, Santa Cruz County? What are investors doing in a commercial project versus a residential project? I mean different investors will look for different product types. But you can look at transactions that are going on in the market place to figure out what are they and how are they valuing capital? The key thing with a cap rate is that we're using cap rates to value real estate. And we're using it basically to estimate based on whether investors are buying existing cash. Right, so it's an existing building with proven cash flow. So it's proven cash flows, real yield requirements should be lower than normal because it's real cash. It's not, they're not speculation that it won't get built or speculation that it won't appreciate in value. So it tends to be at the lower end so you would never use a cap rate to say, well that's an investor's return requirement. Because it's not, it's just what investors are paying for cash. So usually you can go into the appraisal markets, you rely on any real estate service, will help you figure out what cap rates are. They're different everywhere. They're different in growing markets. They're different in soft markets. They're different in residential versus commercial. And they change over time. If people are concerned about the future, their cap rate will go up. Because they're more concerned, so they're cautious. If you're cautious, your rate goes up. If they think the market's gonna do fine, then their rate goes down. Because they have a lot of confidence. Changes all the time. Changes by region, changes by product type. So I am going, I'm not gonna do this. I'm just gonna do this. What I have to do is get this so I can burn the case. So we wanna talk about loans and how do we determine what the lender will lend? Again, the permanent loan is that long-term financing. Again, it's where the project is operating. So until it gets to what we call stabilization or operating the way we think it's gonna operate in the marketplace, it's kind of in the construction phase at that point. And then it's, head stabilization now is operating. So we have a lender that's gonna provide financing usually for 15 to 40 years, depending on the project. Again, they're gonna get repaid from that rental income. So they have to believe in that rental income. And then we have the construction lender, again, the short-term financing, again, repaid from permanent financing sources. So the permanent lender is gonna have some ratio. So if you've gone through a home mortgage purchase, this is exactly the same concept. Investors are gonna be careful. I mean, lenders are gonna be careful. Remember, they're EU work. They wanna make sure that you always have a dollar to pay them on the mortgage that you owe them. So they're not gonna let you borrow that maxes out your income. They're gonna hedge their bets. And they're gonna do it a couple different ways. You know, it's called debt cover ratio or debt service cover, which again is your NOI divided by debt service. So it represents the first way out for a lender. You know, it's the cash that pays the loan. So if the debt cover is high, so in this case, a 1.2, fairly typical. So 1.2 means they have a dollar or 20 of NOI for every dollar of debt. So I've got 20 cents or 20% as a cushion. All right, the bank's not gonna let me, you know, use the 120. They're gonna only let me use the dollar. So they're creating a hedger, making sure that I make money. If there's a low debt cover, that means confidence. If I'm doing a low-income housing project with bonds, I probably can go out 40 years or 45 years. I probably can get a 1.1 debt cover on that because those projects are economically risky. So depending on the lender issues out there, oh, and I get an FHA warranty on it, then I might see 1.1 or 1.15 and in Seattle, we're getting 1.1 because a debt cover on affordable housing now. If I'm a hotel, I might be at 1.6 because hotels are risky. So that debt cover if it's low, the lender is saying they're confident in this. If it's high, then they're saying they're not very confident so then I call them as much money. Now again, I'm gonna put these up on the wall while we're working, but remember that's an algebraic formula, right? The power of algebra. So if we want to figure out the debt cover, then we look at our NOI and we have to know the debt service. But if we're trying to figure out the debt service that the bank loan will be required of us, we can do that algebra differently and that NOI divided by the debt cover will tell us how much loan payment the bank will make us do. I'll do that algebra while you're working on the case. But remember it's an algebraic formula. In this case, we're solving for debt cover but in most cases the bank will tell you these. You can walk into any bank that'll make you tell them who you are and where you live and why you're asking for this information, but they will give you their underwriter criteria. What's the debt cover and what's the loan to value that we require? Because that's the other one. It represents their second way out collateral risk. So how much the loan amount divided by that fair market value? So once I value my real estate, the bank will loan against it. You think of home loans as like an 80% of value, 90% of value. Again, that's the bank lending against that value, the higher the loan to value, the higher the higher confidence they have that you're gonna be okay. It represents their second way out because if they have to take back the real estate and sell it, they're not gonna get the best price for it, right? Because that's all those webinars. Some of them are so you guys stay up late at night watching how to get rich in the real estate industry is going to the courthouse steps and getting all these distressed properties that have cents on the dollar. The banks know they're not gonna get the best prices. So they're hedging their bets. Usually we see between 75 and 80%. Sometimes you'll see them lower. I see a lot of things around here that are 60, 65%. Hotels again, they're down at 40 to 50%. So if I'm not sure how this is gonna work, my loan to value goes down. If I'm confident, my loan to value goes up. So the bank will lend more against that value. So there's my example. Lenders offering 7% 25 year loan. Developer wants a million one from the borrower. Here's my pro forma through NOI. So I have $100,000 of NOI. And I want a million one from the bank, will I get it? Well, in the first case, debt service equals loan amount counts constant. So a million one from the bank. This is the loan constant from the bank's terms, right? The terms of 7% at 25 years. That's the constant. So there's my debt service, 93,000. 100,000 of NOI divided by 93,000 at debt service is 1.07. Now the bank's like, man, my debt cover is 1.2. 1.07 is not gonna do it for me. Okay, well now we know the lender's debt cover, algebraic formula, right? You know two variables you can solve for the third. So that 100,000 of NOI divided by that debt cover equals 83,000. So 83,000 is what the bank will let us use for that loan. And then that debt service divided by the loan constant, algebraic formula, let's just figure out the loan amount. So we wanted a million one, based on debt cover the bank is gonna land us 981. So we may have wanted something, but the bank's ratios are gonna tell us what the bank will lend. And the same thing on market value. So our $100,000 divided by the cap rate gives us a value of a million 176. So a million one of a loan with a value of a million 176 is 94% loan to value. Bank's not gonna do that, the bank wants 80% loan to value up. So again, we just do the algebraic formula in another way. We've got value of a million 176 times 80% is 941. So the bank is gonna have, typically a bank will have two ratios. I've seen key bank is one bank you don't have key bank down here that tends to focus on debt cover as a lending criteria, but most banks have both ratios. So you have to meet both ratios. If they say you gotta meet both ratios, you gotta meet both ratios. So based on debt cover, the bank would lend 981. Based on loan to value, they'd lend 941. The only loan that meets both ratios is the lower of the two. So we came in wanting a million one, the bank is gonna lend 941. So now we have $150,000 of equity that we have to find. So that's on our nut because the bank isn't gonna lend any more. And recognize the bank's lending criteria had nothing to do with cost. Cost is what cost is. The bank is gonna lend based on value of the real estate which is determined by the operating performer. There's really no connection between the operating performer and the development budget. So it's not like if it costs me a million dollars, the bank will give me a million dollars. The bank will lend me money based on what my operating performance is and the value of the real estate. The two are not connected that way. Yeah. Well, you may not like what the bank's loan number is and if your market can support higher events, then obviously you could do your adjusting however you want it to your adjusting. Oh, no, no, no, they're always greedy. They're always greedy. Well. But you're right. I mean, the point is that the developer doesn't have all the cards in this game either, right? They have a market that will only pay a certain amount. They got a lender that's got criteria that aren't always favorable. And so you're right at a certain point where we'll show in the examples where at a certain point, this is just what it costs, you know, and this is what it is and we may not like the impact of it, but this is what it is. So once we know what it is, then we can try and solve that. We can try and work on those solutions. But you're right. At the end of the day, you may need a certain amount from the bank and from, because your equity investor needs a certain return until you need money from the bank or you've got a gap, you can't, you don't have sources to equal uses. And so you're looking to increase your rent if you can because that increases the value so that increases what the bank will provide. Yeah. Yeah. Yeah, so is there a way, what about government intervention to change the risks that banks face without actually themselves putting money into it? Is that an impossible strategy? Well, it depends. I mean, again, the idea here is what's conventional. So I've seen public sector that will provide a loan guarantee. I've provided a debt service guarantee. So I want the bank to put more money in. So if I know what the bank's ratios is then I'll guarantee the difference of what the bank believes it will be versus what I'm prepared to risk. There's lots of ways that public could intervene if it chooses to. But I think the key thing for what we want to do here is figure out the problem and then kind of the next seminar would be, oh, okay, once we know the problem, let's figure out ways in which we can try and solve it. Recognizing that no one can solve the problem. All of your peer communities around the country have exactly the same problems. And there's not a lot of solutions. Now, without just, without money, I mean money's obviously a solution. So let's get to a case because I want you to play around with the numbers. So in your case book, and this is just simple math so don't worry about it again. You can use, you can use yours, your telephone. But if you turn to page 33, cross-bite falls. I know you won't want to recognize cross-bite falls. That's a euphemism for real community in upstate Minnesota. And I'm not going to go into the narrating it, but the key thing, this is, to me, is very analogous to Santa Cruz. Upstate Minnesota, they're trying to recruit companies to come there, world community, they've got a snowmobile company that's looking at locating their market, that there's also a cost factor that's added in data, so they want to relocate a plant there. But the quality they have is housing costs. They're not sure that their employees can be housed there. They have some employees that will come and some will come from the local community. But the vacancy rate in the community is 2%, so there's not a lot of units. And they're not getting any units built. So the company's concerned, and what the company has said, is you have to show us how housing can get created for us to invest in moving this plant here. So you have an economic development strategy with whose solution is affordable housing. Or they're not going to come. So in cross-bite falls, you can see a nice little description, it's a real project. The names have been changed to protect innocent. Next page, 34, you can see the development costs. So we've given you the development budget. So if you want to use your worksheets and stuff, that's all fine. We've given you your operating costs. So we're giving you a lot of pieces of this case. For the first order of business is to figure out what the quality meant when he said that rental housing doesn't pencil out. So on Santa Cruz, if you talk to the private developer, they might say that the projects just don't pencil. Meaning that the math doesn't work for them. Well, how can that be? We've got 2% vacancy. Surely there's a demand here to make it work. Let's figure out what that means. So your assignment is going to be assignment one. Prepare an operating pro forma. So in that worksheet, you're going to prepare the operating pro forma just for year one. That's all it is, it's year one. If you NLI, assume rents of 1,050 per month per unit, a 5% vacancy rate, you already have expenses here. So what's the NLI? So you're going to project rent. We've given you the vacancy, we've given you expenses. So you're just going to do the simple math. Then question two, what would the debt service be on a million three? So the bank is going to lend a million three. So you don't have to determine what the bank holds on. We've told it for you. 7% for 20 years. Short-term, high-rate, the bank is worried. So you're going to get the mortgage constant for a 20-year mortgage of 7%. Low amount on loan constant is debt service. So you've got the NLI. Now you can figure out debt service. So you get the cash flow. So what's the cash flow the project generates? And once you know the cash flow, what's the cash on cash return from loan? And you know that because the project's going to cost tax, whatever's not debt is equity. Very simple. Whatever the bank isn't going to lend is equity to the project. Once you know the equity to the project, cash on cash, cash flow divided by cash equity tells you what the return is. What's the return I can give to an investor on this project? And then we'll see whether that's enough to make this project work. Okay. So just work through that math with the worksheet there. So you have to determine your revenue. We've given you vacancy. We've given you expenses. You have to determine the debt service. Get the cash flow. What's equity? What's the cash flow divided by cash equity? Are we supposed to put in the rent for the site for the business? No, no, no. The business is going to go where the business is. But they need the housing built for them to feel comfortable bringing in this plan there. Okay. So that's what you're going to work on. We're going to regroup in about seven minutes. This time, are you going to do this? Yeah. Well, how long is the cash flow going to take? Hold on. All right. So we're going to work here? One, two, three, four, five, six, seven, eight, nine. Okay, let's see if there's one. Okay, we're going to use four minutes and seven. Okay. Okay, let's go over this. Again, we just wanted to give you a chance to have an experience and solve one together in your life. So that's fine. I don't do anything nice. Well, I don't do anything, because I have a fight. But they seem to have a contract to be right, because I don't have to erase just a bit. So it's a same thing. Yeah. So for this one, I just want to walk you through some numbers. So simple, why is a housing in Frostbite Falls, why is it not penciling? Generally, it's not penciling, because the returns that we get isn't sufficient to get that capital to do the project. Because whatever is not that is equity. So if all of us are investors, whatever the bank will lend is coming from us, would we do this project? And the key thing on whether we would do this project, sort of the most part, even with our social roles, is what's the return? And is that return enough to get us to put that money in? Okay. So Michael, why don't you walk people through how you did it? And remember, you have to use your outdoor voice so everybody can hear you. I want to walk you through your mind. Okay. So it's gross revenue. It's $1050 a month times 20 units, times 12 minutes is $250,000 a year. 95% occupied, 5% basically rate. So it comes out at $240,000 of gross rent. His operating expenses are giving to us at 83, so he subtracts those, and you get an operating income of $157,000. Okay, wait. Everybody there? So gross revenue was $252,000? Yeah. He's rounding. Okay, rounding is good. Some people don't like rounding. The rounding is good. Don't ever do a pro forma with decimal points, ever. Okay? Okay. So we've got the net operating income of $157,000. The loan, looking at the table, that 7% 20 years of the 0.0931, and that came to 125.6 days, I rounded a little bit. So it gave you the loan amount, you looked at the loan constant, to get the debt service to put debt service in your form. Which I rounded $226,000 a year. The amount more than they've asked, is very generous of you. I typically don't. So subtracting that debt service from the net operating income gives me a fast flow of $31,000 a year. And then this total development cost is $2.625,000. $2.625 million, rather. The bank has won the lending $1,275, so that these equity of, no, excuse me, the bank has lending $1,350,000. So it leaves me an equity of $1,275,000. So my $31,000 a year, a cast, divided by that $1,275,000, I've got to put in, comes to about 2.4%. Let me chart for you, please. So anybody else get a number that has a lot of these differences and attitudes? Yeah, you're not putting money in there. It's good, it's close to people. Yeah. That's how we're seeing it. That's how we're seeing it. Experts even within the community itself. So obviously the Q, it doesn't pencil because rents aren't high enough. Costs are what they are. We still only, the bank only lends so much. So we get a 2.4% return. Would we do that? Probably not. It's just too low. I can go into the, I can get a bit of a mon on it. From the Zinnia-San cruise, I'm celebrating more than ever. On behalf of them, I'm worried about that. So that's the real key is in real estate financing, you've got a debt equity. And we're always trying to figure out how to attract equity. Most of the equity people none of us will ever meet. Those are people all over the American circle that I have worked with. But they have the financial resources, they have their current performance. And if we're not acknowledging those, then they're just not gonna play in our game. Now again, I've seen in some communities where those yields are coming down a bit. But recognizing the developer doesn't have a lot of choices. They're investors that they typically work at. Work with them for certain kinds of yields. So if you don't have it, they got other places that they can move their money. You and yourself wouldn't invest in it. So it's not just for the dollar-to-paying, you can't let people, you don't have money for everything. It's not going to go to the dollar-to-paying. So bringing it into our bigger concept, text of our community, and with this case study, is this where the public sector steps in and says, look, there's a social value to us to attract your company here. So we're gonna look to offer you some other incentives within our community, rebates on this, or reduction of developers, whatever it is, maybe to reduce his equity so that, yeah, he typically would only get 2.4%, but maybe that number can bump up and that's when you have some negotiation with this potential employer and developer to see how it would be. If we really want this, now we have to put our shoulders to the wheel and figure this out. So if we had gone through this case through all of its permutations, which we didn't, because we don't have time, but our next step was, can we find a lender? There will be more, generous. 20 years at 7%, that seems pretty cautious. So when we go to another bank, the bank has been provided 30 year loan so we can increase the debt. For this project, if we reduce the equity, maybe we get a yield that then is sufficient. When we do the math, it's not sufficient either. So we still got a problem. I mean, the eventual solution, was you have to look outside the economics of the project. So this community actually solved the problem with doing its own financing, because they could finance a longer term at a data rate of 7% for the bank, and they did something with their taxes. Again, so they reduced taxes in a way that allowed incomes to be higher, allowed the value for the project to be higher. So when we talk about in Seattle, in Washington state, we don't have tax income in financing. We've never had tax income in finance. We have tax evasion. So we're doing affordable housing. We can pay taxes for 12 years. And in Seattle, our property taxes are pretty high because Washington state doesn't have any income tax. So we collect our revenue through a high sales tax, 10.1% and through a high property tax. A lot of that property taxes actually go over through tax now. So we wait for that. And so we don't pay those taxes that increases NOI. If you increase NOI, you increase value. If we increase value, we increase how much the bank will end. So once you know what your problem is, it is now you can focus on that problem. You still may not solve it. Again, sometimes we're seeing now, again in the West Coast where costs are just so challenging to control. The gap is just enormous. So at some point, city of Seattle, we had $114,000,000, $350,000 of housing money. Now to cut our account and go to the $800,000,000 of housing resources. How much? $950,000. All their cities are doing the same thing. They're bringing money to the equation because at some point that's just what you gotta do. Santa Cruz, a good portion of our tax revenue comes from the tenant occupancy tax. The people who work in the tourist industry are probably some of the lowest paid people here. It seems to me it would make sense to take some of that tenant occupancy tax and provide suitable housing close to where the tourists are showing up so that we have people who can afford to continue to work in the tourist industry and have housing. We are clogged on the freeway because it's what costs to fight in the freeway. If people were living closer, they would have something that we've been thinking in terms of the whole system and where our source of revenue is, I think it's something that's worth exploring. Well, to me, the key is obviously we're not gonna solve that problem tonight, but you have to look at everything. I mean, in Seattle right now, we are looking at significant amounts of corporate investment, investing in workforce housing. I mean, so like a lot of places, we have subsidies that allow low-income housing. The private market will take care of itself, but there's nothing in the middle for our teachers or firemen or whatever, so we're now working with the corporate community, Amazon, who we like and hate at the same time. Now, sales force is up there with Mark Vanioff, we've got Microsoft, that's just investing $500 million in housing solutions. So we're trying to bring a different source of capital to help build that gap. Will we solve the problem? We don't know yet, because we're still trying to move all the pieces together. But it has to be a comprehensive, it has to be comprehensive and has to involve all sectors of the community. Everyone has to be engaged in the solutions, because it can't come from any one thing. It can't come just from the banking world, it can't come from, we need investors to take a lower yield. I mean, that's just not gonna be productive. Okay, a couple of quick questions that I wanna get to the grand finale. So what is the incentive for these corporations to want to invest in policy? Do you want their employees? Some of it is kind of civic well-being, but part of it is they don't want, I mean, just like you said, we have people now in Seattle, when I moved up to Seattle, California, we always referenced, no, commute times by time, right? I'm 20 minutes away, I'm 30 minutes away. We never thought in terms of miles. I mean, in Seattle, the city of Tacoma is maybe 30 miles away from the city of Seattle. The city of Tacoma, we would never, ever go to for a movie. But in California, you would do that in a heartbeat because of how we think of time. So we now have people commuting over two and a half to three hours, those super commutes that the Bay Area has now. We had those in the Pita Sound, now we've never had those before because people are being driven out because of affordability. So we've got those same issues, we've got congestion in some places, people are driving out, and that's why it's gotta be a regional solution. But like I said, I mean, the good news is that nobody solved it. So it's not like Santa Cruz is further ahead or further behind. This is just a really hard problem. Yeah. In an example, it said $5,000 for permits for a 20-unit development. Is that like a normal thing? Because that's like, it's nowhere close to reality. It's mid-sea, it's mid-sea. Well, yeah, recognize that everyone's different. But I will say, cities compete with each other by how lenient they're gonna be on stuff. Now, for the most part, that doesn't mean that a company wants, a company's don't always go to the cheapest place. We're all proof of that. Our economies are growing and we're some of the most expensive places in the country because of the dynamic now between the workforce and the quality of the workforce and where companies have to go to access that workforce. And so they're not necessarily looking for the cheapest places. But clearly the public looking at the cost, they bring to a project. As part of a solution to gaps is all those things have to be on the table. Yeah, Bonnie? Yeah, just to that question, I think one of the projects developers by right have the ability to ask the city to waver to firm some of the relevant permit fees for affordable housing projects. So that is one of the solutions that we have already embedded into our plans. They already do that. They've got to counsel ultimately to grant that and we'll take that to counsel. But that is something that they by right can ask for if they're providing affordable housing. Okay, so remember we talked about, this was just a one-on-one. And if you're interested, we can have a continuing discussion to start to get into more detail, more technical, more technique oriented how we try and engage. So we wanted to try and do is to figure out what's a Seattle, I'm sorry, I'm on Seattle time. What's a Santa Cruz prototype? So what I did is, and I need all of your help because you know your community better than I do, even though I was here for a while. I rummaged around a bunch of documents. And so we tried to come up with what would be at least a generic market rate project in Santa Cruz. So we could play with this map, right? So what we wanna do is, so this is my budget. And again, this is just me rummaging around. So we'll have to scroll down more. So if, then the idea is once we won't leave here, so we've got 20 minutes. So we wanna create, okay, what do we agree on as the prototypical project? Do these numbers make sense based on your experiences? So we have an example here that's in the realm of possibility. And then at some point, let's figure out, now we've got real numbers, let's figure out if we can solve the problem. So this is a generic project I pulled together, no property size of 48,400, which may or may not make sense. It's one acre, right? Yeah, a little bit over an acre. 32 units, so not massively dense. Again, this is just all illustrative. So here I've got debt coming of 15 million, which you'll see where I got the debt from. So I need equity of eight million. But the way the costs were, so this is the development budget. So I've got side acquisition by 48,000. I'm pricing it at $133 a square foot. So land will typically be valued at per square foot or per acre or per unit of development I can get on it. So if I'm valuing 48,000 square feet of land, is 133 a plausible number? Is land here in Santa Cruz less than that or is it more than that? Does anybody, or is it close enough for a million an acre? The council is gonna make a motion to produce a density for no given reason. So you're going from 30 to 24. You can't do it anymore, so it gets to the loss. It's like a good ball for you to do that. So we said a million an acre, 43,560. So that's only $22 a square foot, is that right? I think it's like 3 million an acre, or is it a residential development? Okay. So do you want to split? It's $85,000, but it was $85,000. Because it's at $55,000. Okay, so if I've got 32 units times 85. So that's 2,007 divided by 43,560 per acre. Gives me 62 bucks a square foot. Do you think it's half, really? So the 133 is less. If I take 85,000 a unit, and I've got 32 units on here, at the end of the day, that's getting to $62 a square foot. So you're okay. You have 36 on high end, is that the infrastructure? No, no, it's just the land. So if I go to, so if my high end is 3 million an acre, so that's $68 a square foot. So it seems like at least I'm way high, right? So if we want to err on the high side, the highest number put up was $3 million an acre, which you think is high, maybe depending on how many units you can get on it. But if I go at that, then I'm at $68 a square foot. So I'm just going to say 70 here for now, right? So we think that's at least somewhere in the ballpark of land value in Santa Cruz, the city of Santa Cruz. And at some point we'll figure, we'll look at some other sources and kind of confirm that. And then so I've got side acquisition costs, we've got direct costs, they're what are often called hard costs. If I had a building on there, I'd have demolition, right, to clear the building and stuff. If I have site work or infrastructure, so that offsite work, I'm pricing it at 40 bucks a square foot. So if I have to do that work that's offsite, it's 40 something about, right? Right, but site work isn't construction cost. Site work is scraping the land, doing the sewer hookups. It's mainly kind of the scraping and filling. I've got parking about 40,000 a stall if you're going to structure parking. 60, 60. 60? Yeah. If it's structured. Yeah. And I put 32, so I'm parking per stall. I think your code actually goes below that, but we'll worry about that later. Right. And so building costs, so my 32 units, I'm using an average of 872 per unit size. Is it one, two, and three? It's studios, ones, and twos. That's really good. That's two. Yeah. It would be about 854, one, two, and three. OK. So we'll reduce the average size. So that reduces the gross building area, and I've got 260 as a hard cost. Contractor cost for residential, and I've got $100 a square foot for commercial. 400? Because it's like 300,000 dollars per unit. Right. Well, these numbers here give me a per unit cost of 654. Just so you know. Right now I'm projecting total development cost per unit that includes land of 654. And I've got just construction costs at 54080 unit. So my math is right. Why are you guys giving me a dozen numbers? So are we good with the 250, or do you want me to go higher? So again, in the hard cost budget, we have a general contractor overhead profit. Usually that's about 10%. Sometimes it's called general conditions as a separate category. But basically the contractor is getting about 10%. I've got a contingency in here of 10%. Remember, contingency is not a budget category. At some point, you move money out of contingency to some other cost. But it's our hedge factor. So 10% is a decent number. If you start with 10%, it goes down to 5% when you get your business. Yeah, you hope you get it down as you get to more clarity. So I've got total hard cost in this at $13 million, which is about $478 a square foot, hard cost. $416,000 per unit just for those hard costs. It's in the ballpark. OK. So this is in the ballpark. Then we have what's called indirect or soft costs. So this is where if you have an architect doing a budget, they almost always never include soft costs in a budget. So this is architect engineering costs, permits, and fees, taxes, insurance, legal, all those things that really aren't in the general contractor contract for the most part. So I've got architect engineering costs about 6% of direct costs. Usually those will range between 5% and 8%. If you have any costs higher than 8%, you should ask why, because that's getting pretty high. We're doing a police station on Bainbridge Island where the architect has inserted a 15% cost in there and the city's letting them. So anything over 8%, you really should question that. Permits and fees, I've got about $25,000 per unit. $48,000 per unit, taxes, insurance, about 3% of direct costs. Marketing, I've got $750 per unit. So I'm marketing my residential units. $1,000 per unit. $1,000 per unit. I'm not going to listen to that, because that's not the city of Santa Cruz. We've got a development fee. So the development fee, again, is in soft costs. It's not in the hard cost budget. So I'm using 5%. That's probably a pretty good number. You can see a development fee that may be higher, maybe a little bit lower, just depends. Again, the developer fee is really a contingency. The developer will usually be paid on a monthly draw. They'll cover overhead and expenses, and the balance of it is really paid when the project is done. So I've got 5%. Is that too low, or is that too high, or what? It's usually a $1,002 plus. And then, let's say it's $2,000, but you end up putting in about $1,004 as a loan of 12 years. So you might get $800 in defense. Right, but you're talking a tax return project. So you're deferring it. So your developer fee is kind of contrived because the IRS lets you. And only about a third of it is probably paid. The rest is deferred. OK. So that's about a third. And then I've got a contingency in here. You've got a 5%. So I've got 3.6 of soft costs. That's about 27% of hard costs. So that's usually the general range. So if you have your soft costs well below that, you probably don't have enough of your soft costs identified. If you have soft costs that are higher, it may be because your costs are higher. But again, it just gives you a benchmark. And then I've got financing costs. So I've got loan origination fees. I've assumed a loan of that 70% of my development costs outside of land. So I didn't yet worry about what will the bank let me borrow. A lot of convention is about my direct development costs outside of land. And I'm just assuming 70% is what the bank will lend. So that's maybe a loan number. But it's $14 million. I got 2% on points because I think that's what banks are charging these days. Anybody have experience different? Is it lower or higher than it? It really depends. And it doesn't include the third-party cost. So appraisals and other things. Those would be, again, in your soft costs. But then I've got construction financing, again, because we're borrowing that money during construction. So I've got an interest rate of 5.5%. What rates are you guys getting now? So that's good enough for now? Yeah. OK. I'm assuming 18-month construction schedule? No, not anymore. Like on June, yeah. So I'm going to go right in there and change it. There's no legs. 20 months. So you can see what I did is one of the things that's key, this is just a tutorial. You see the formula up there. On your construction loan, you only pay on your construction loan the amount you actually borrow. I've got a loan of $14 million. But I'm only drawing it down as I need it for project costs. So I only pay interest on what I draw down. So you're not paying 100% of that interest cost for the entire term of the loan. You're really paying that interest over time. So if you do it right, then really it's the last month of construction where you've advanced all of your construction loans to minimize the interest period. And where you get into trouble is once you've drawn down your construction loan, now you're paying the maximum interest on that per month. And if it takes you longer to lease up, now your interest costs are going to go much higher because you're paying it a much higher rate. So that's just the formula. We see a lot of people estimate construction interest in a much higher number. So I've got 20, so now I'm down to there. You've got 20s without closing any tax credits. So you haven't done this six months after that. But this is a market project. So I haven't put any reserves in here. Again, if we're not certain, we might have reserves in the development budget, which means we're not sure about lease up. So once you start leasing up, you have costs you have to incur. So you need money to pay for that. So we may have, and I often see lease up reserves that are 50% of your annual costs. So you think about your operating expenses. You have to start paying those as soon as you're operating insurance and stuff. So you may need reserves in your development budget to cover those costs until you're at full stabilization. So it's oftentimes you'll see reserves in the development budget as well as reserves in your operating budget. Key thing, it doesn't matter what the bank will loan because the bank will loan based on your operating budget. So the more that's in your development budget means the more equity that you're going to need. Because whatever adjustments get made, it doesn't change what the bank will lend because the bank is lending based on income, not based on cost. So what that does, if you actually believe that these numbers in the ballpark, so for a 33-unit project that I've cleverly called Surfshore Apartments. Since I'm from out of town, I can be cheesy with the name of my apartments. I've got total costs of $21 million. So that gives me total development costs, including land of $6.84. Total costs per unit of just the construction costs of the not land is about $5.79 in that ballpark. That's outrageous. You should be ashamed of yourselves. We actually get those same numbers in Seattle. I think the full course is great. The more people you can expose to the better so they actually understand how this works, the only thing in this model, this is 0% inclusionary, correct? Yeah, right now we're just starting. This is a market-rate project. So why isn't the market working, right? So we've got our development costs. So we're going to carry this over. So it's a market project. So we agree the cost of $21.9 is in the ballpark, right? Right now I'm saying I think I can borrow $14 million in equity of $7.6. So the real key becomes we want to convert, well, I want to go and exercise first. So developers are also always asking for more density, right? If you can give us more density, we can make this project work better. And you're always suspicious of that because developers always ask for that. But the reality is if we take this project, if we just walk through the numbers, and if we are able to double the units to 64, which is not a massive project, but if we can increase the units. Now there are costs that are fixed and costs that are variable. But what that does by adding more units, we now have dropped. We've increased our development cost by 68% to add those other units. But we've now reduced our total development cost by 21%. And the construction side of it by 10%. Because we've gotten those fixed costs spread over more units. So there actually is a cost benefit for more units. Now you have to debate politically about what's too much. But we just wanted to kind of do this exercise to at least show you the math is significant. And a project asking for more density isn't just trying to be greedy. That some of those efficiencies actually do play out. And the unit costs are actually less because you've got more of those costs spread over those units. OK? So we've got our development budget, which we'll play around with again. Now the other thing is our operating pro forma. So this is what I've got for operating cost estimates. So I've got general operating expenses are about $4,000 a unit. I don't know if that's lower or high. I've got property taxes at about $6,000 a unit. And I've got reserves at about $200 a unit. If I'm back commercial in my project, I'm renting probably around $2,000, maybe $250 a square foot. And then I've got common area expenses I can pass through of $312,000. I've got management costs of 4%. That's my cost. And then my reserves. To those operating expenses, does that look in the mall market? For market? For market. Does anybody know? Is it good enough? I've got general operating expenses at $4,000 a unit. Property taxes at $6,000 a unit. Replacement reserves at $200. So the way this translates, so this I took are $60,000, $40,000. And I've got my unit mixed there. These are the rents that I was showing. So a studio at $25,000, a one bedroom at $3,000, a two bedroom at $4,600. Yeah, so it's kind of reflecting at least where are our rents at? Market, market rents now. I've got some laundry revenue, miscellaneous revenue coming in. So I've got gross revenue of about $2.8. I've got a 7 and 1 half percent vacancy. That seems high to me for Santa Cruz, but I put 7 and 1 half. So I've got effective gross of $2,600. I take those expenses down. I've got expenses of $6,502. So it gives me NOI of $2,017 in that ballpark. So if I was looking at this as a return, NOI, no bank loan, no leverage, but NOI divided by that equity, I'd be at 8% by 8.6%. That's probably a doable project. I could probably find money then. But I've looked at my debt service number again. I'm projecting 5.5. So I valued it at the fair market value is $4 million. What's using a cap rate of 5% is maybe low for Santa Cruz. So I've got my debt service in there. Again, so getting that cash flow of $3.36, which is a 3% cash on cash return. So not a great cash on cash return. Because bank debt is less expensive now, if you can get bank debt, you would always do that because it costs you less than an investor. So in a sense, you would always leverage your investment because at least that bank return is less than what your investor is going to require. But 3% is not a great return. 3% with after-tax benefits might equate to a 6% return. So it's tight. It's tight on the private side. Does that sound at all kind of in the ballpark? We're close enough for it. We're not going to work. So we'll play around with that a little bit later. So the key thing we wanted to recognize, at least, why isn't a lot of stuff happening in Santa Cruz? Well, because if those numbers are right, it's actually not that great of a return. If I'm an investor, I may need more than that. And so oftentimes what you'll see, and I see this in a lot of communities, where really development is being done by your contractors. They're really developing real estate for their construction business. They're not really developers. And so they're taking their fees out of the construction, and then they're waiting for the product to appreciate it so then they can sell it and kind of then give their money out of it. So that's a different market than if you have true developers coming to play. And part of it is because your returns actually aren't that high, right? 3%. So it's not like there's a lot of money being made. I think that's just the key thing. Money's being made, but not a lot. Now just for fun, because I know we're starting to wrap up, I want to look at, now what does affordability do? So that was our market rate. So now we want to start to drive the project based on affordability. Which means that we're giving up revenue. So I went to the extreme. Let's look if we've converted this project to all of those units at 30% AMI. So we're trying to get to very low income people. Well, if I do that, what does that do to my pro forma? It dramatically changes rent, obviously. Because now the rent is based on 30% of their income, not based on market value. So we've dramatically reduced our income. We haven't changed our expenses, right? Because the affordability levels don't change our operating costs. Well, oftentimes, I don't know what. Yeah, it's 8,000 per unit. Because now you've got to probably just need some more management than this. Well, the key math here is, if it's very low income, now this, again, this is just a contrast, in the worst case, notice what happens. Our NOI is negative, right? For tax purposes, we don't have a viable project. Because you don't have revenues that exceed expenses. So go ahead. But if you have people who take 30% of their income, that is being subsidized by the government, so the full amount is indeed being paid. It depends. It depends. I mean, what you'll end up having in this kind of a project is you'll have housing subsidies, right? I might have sectioned vouchers that let me pay more, so I'm getting money from someone else. Or even then, I still may need other housing subsidies to make sure that I can pay my costs. The key thing is, if you drive your affordability too low, then you need to bring in rental subsidies, because you can't do a project that has negative cash flow, right? So you'd end up having a subsidizer through some other means. What? Not everything gets subsidized now. No, that's right. Some places you can get sectioned vouchers, some places you can't. Some places, some cities are prepared to provide housing services money. Some places aren't. The main thing is, I mean, when you drive for affordability, there still is a balance that you have to achieve, because you still have to have revenues exceeding expenses. Or you get to bring in monies from other things. It doesn't always solve these salaries. Increasing salaries. Increasing salaries would not be bad, but your salaries aren't bad in some cases. I mean, in some cases, that's a much longer term project, in terms of increasing wages within the work list. Yeah? When you add in the factor of inclusion, I mean, that would be interesting to see in your model, because in schools, some people will say, inclusionary should be 50%, but the reality is that it won't pencil. Or the rates on the non-inclusionary units would have to double to make up for the loss of rentals. Right. I mean, I think the key thing from the math, not the politics, is that if you started to require rents to be set in a different way, then the impact is going to reduce income to a certain point. The question becomes, is that still OK? I mean, there's a lot of zoning programs that look at providing zoning bonuses to give you more units to help offset the ones that are being set aside for low income. But the math of it could be pretty straightforward. But obviously, I'm not dealing with inclusion right now. But for now, it sounds like it is from you in the room that this development budget and this operating pro forma, not the 30%, it is at least in the ballpark. So if we want to start playing around with it to start looking at different ways in which we can make that math work better, then at least we're using the right starting plan. And you'll all sign an affidavit certifying plan. There's a form at the back of the room. So you can't yell later when we come out and say, oh, that's just not expensive enough for that. So thank you for your patience. Hopefully, it wasn't too boring for you at the first start. But we wanted to give you a good overview just of real estate. This is how the math works. The books will give you a lot more detail. We didn't play around with algebra as much as we would normally play around with in our classes and stuff. But it gives you a feel for pushing numbers around. And at the end of the day, it's a math exercise to be able to solve your problems. I would just say I hope you enjoy this. We're thinking about doing a Housing 201. I will also say part of what we'd like to do is the next step is to talk about projects from the various perspectives of how they actually get financed for affordable housing projects and also what role the city has in that. So we'll give you some examples of some projects that we financed, including the one that just had its grand opening over the weekend on Water Street. So that project we had between 4.6 in loans and grants and some additional funding, about $5.1 million in that project to help with the affordability. And overall, that comes out to about $125,000 per unit as a subsidy from the city. So it varies widely. We have other examples of the tannery, Liberty Treat Apartments, other projects that the city has invested in over the years. So that's something that we provide as a housing, affordable housing 201 that we'd like to provide next in the series. So thank you for coming today. And we will send out, actually, some of the answers to some of the questions and exercises in your packet. So if you're interested, you can go ahead and click on the link in the description.