Student Housing Offers Some Stability for Real Estate Investors

The housing market is still in the tank and doesn't seem likely to emerge anytime soon, but there are investment opportunities in one segment: student housing.

It's not a risk-free proposition, and it's far more management-intensive than conventional multifamily properties. But student housing has a long history of growth and stability and promises to repeat the pattern as college enrollment stays on its upward trajectory.

"Demand and supply conditions for housing are bad," said David Stiff, chief economist with Fiserv, which publishes the Case-Shiller Home Price Index. "But in college towns, demand conditions are slightly better. There's a stable source of new demand every year."

There are at least three paths to investment in college towns: individually; in a partnership, or as a shareholder in one of two publicly traded real estate investment trusts, American Campus Communities Inc. and Education Realty Trust Inc.

An initial public offering is on deck for a third, Campus Crest Communities Inc., which expects to list on the New York Stock Exchange under the symbol "CCG."

REITs focused on student housing have become investment magnets for large pension funds. Some bigger syndicates have partnerships with larger funds. Campus Advantage Inc., one of the nation's largest private student-housing companies, is managing and helping to develop properties for the California Public Employees Retirement System.

"Comparable to other similar product-type investment opportunities, student housing is a really good investment," said Michael Orsak, vice president at Campus Advantage, which manages and owns 50 properties across the U.S., mostly in the Southeast, Midwest and Texas. The industry measures its size based on beds. For Campus Advantage, that translates into 30,000 beds.

"These investments return pretty stable cash-on-cash yields going in and should continue to hold up in the long term vs. other similar product types that might have larger peaks and troughs in occupancy and rental-rate growth," he said.

Orsak said most institutions can expect a cash-on-cash yield in the first year at 8 percent to 9 percent. "I don't know where a pension fund can find that today in the stock market or bonds," he said.

Though markets differ by campus — large public universities have steady enrollment; smaller schools are growing exponentially — the national statistics on enrollment are strong.

In 2010, a record 19.1 million students were enrolled in two-year and four-year colleges and universities, a 25 percent jump since 2000, according to the National Center for Education Statistics. That underscores a consistent uptick in enrollment that is expected to continue — albeit at a slower pace — until at least 2018, as the last of the baby boomers' children reach college age.

Coupled with the recession, which has prompted many to go back to school for second and advanced degrees, enrollment in post-secondary schools has rarely been so robust.

Moreover, today's students aren't living in the kind of housing their parents once inhabited. Many are leaving a home where they had their own bedroom and bathroom, a separate family or media room and amenities either at home or nearby. They expect the same when they leave campus — and parents appear willing to pay for it.

Campus Crest, which owns and manages 27 properties, or 13,580 beds, boasts of its amenities in its initial public offering prospectus. All of its properties — which, like Campus Advantage and ACC, are considered Class A — offer what Campus Crest calls "bed-bath parity," or a private bathroom for each student.

The Campus Crest properties all have Internet access, a full kitchen with up-to-date appliances, washers and dryers inside each unit, ample parking and a broad array of other on-site amenities, such as "resort-style swimming pools, tanning booths, basketball and volleyball courts, game rooms, coffee bars and community clubhouses with regularly planned social activities." Plus they're all fully furnished.

"We strive to offer not just an apartment but an entire lifestyle and community experience designed to appeal to the modern-day college student," according to the IPO documents.

Education Realty Trust takes a similar, resort-like approach to its owned and managed properties, which consist of more than 37,800 beds in 22 states, with a high concentration in Florida and Georgia.

All of these perks cost money, of course, and the monthly price on a student apartment is generally about 10 percent to 20 percent higher than a traditional apartment.

"The tenants are not constrained by real-life economics because, of course, they're not footing the bill," said Joung Park, an analyst who covers ACC for investment researcher Morningstar Inc. "Typically the parents are back-stopping the lease too, so there are fewer defaults."

The key difference for student-housing landlords is that they charge by the bed, not by the unit, Park said. "That allows them to get a little more on rents because they can put multiple beds in one unit."

In many cases, charging higher rent is the only way for an owner to turn a profit. Student housing can be a management nightmare, and costs considerably more to operate than conventional multi-family housing. The expense ratio on conventional apartments will run anywhere from 35 percent to 38 percent of revenues, according to Orsak. Student-housing sites have expenses that are at least 45 percent of revenues.

Utility costs are usually higher, as are maintenance costs. A property can get banged up pretty quickly. Holes in the walls need frequent repair, drains are often clogged, landscaping is rarely maintained, and the overall cleanliness of the place is often questionable.

"These are young adults who have newfound freedom," said David Arthur of Varsity Capital Advisors LLC, which has 1,000 beds split between the campuses at the University of New Hampshire in Durham and Marshall University in Huntington, W. Va. "We constantly have to remind them that they are now young adults and not children in various ways."

Varsity Capital's portfolios consist of B-grade property, which are more traditional apartments with four beds that share a bathroom. The locations are close to campus and tend to be anywhere from $50 to $175 a month per bed cheaper than Class A sites.

Occupancy averages about 98 percent, Arthur said, and rents have seen a steady increase of 3 percent to 5 percent over the last four years. Varsity Capital's biggest competitors are the REITS or larger privately owned groups, he noted.

Accordingly, he advised a smaller syndicate or an individual player to focus on properties around larger public universities.

"We pick state schools because they have a hard time finding funding for new housing," he said. "They tend to spend more money on their plants and their labs vs. trying to pay for new dorms."

Smaller schools tend to have more private money available for student housing and could build a dorm and require all students to live in it. At larger state schools like the University of Wisconsin-Madison, roughly 25 percent of the student population lives on campus.

On the other hand, Miami University of Ohio, which has around one-third the student population of UW-Madison, owns all of its dorms and requires both freshmen and sophomores to live on campus.

Orsak of Campus Advantage said investors should shy away from states where budgets are strained, like in California and Florida. He also advised avoiding schools in rural areas or in states with plenty of open land, like Michigan.

Multi-family housing real estate investment trusts have struggled during the recession while their student-housing peers have done well, according to Morningstar. American Campus Communities' stock, for example, produced a 44 percent return in 2009 and year-to-date is up almost 9 percent. It has outperformed its REIT peers since 2007 and the S&P 500 in three of the past four years.

Still, Morningstar analyst Park warns that valuations may have peaked. American Campus Communities stock, for example, is near the top of its 52-week high.

"The business conditions and the whole industry dynamic of student housing is healthier than your run-of-the-mill REIT," Park said. "But you also have to look at valuations. These guys have had a good run, and we have them now fairly valued." By Morningstar's definition, that's neither a buy nor a sell.

By Campus Advantage's reckoning, the window for growth is still wide open.

"Right now is probably the most intense time in student housing acquisitions," Orsak said, noting that there's about $41.3 billion in student-housing properties actively on the market. "I've never seen that large of an available pipeline. This is an exciting time to be in student housing."

(c) 2010, MarketWatch.com Inc.