Why “smart money” is chasing San Francisco apartments

When David Wasserman first started working as a San Francisco landlord attorney in the mid-1990s, his clients often had blue-collar day jobs as plumbers or garbage collectors. 

Most likely bought their first buildings in the 1960s or ‘70s, he said, a bygone era before the city’s strict rent control laws, when a multifamily building could be purchased for tens of thousands. It was an avenue to wealth creation that Wasserman says is now closed if you don’t “show up to the rodeo with seven figures in your pocket.” 

“Multifamily housing has become corporatized,” he said. “The big, big operators are swooping up everything.” 

In many cases, that means the kind of institutional backing from REITs or other investment funds that have been flooding the market for multifamily and single-family rental homes throughout the nation. 

San Francisco is a case in point for the trend that saw investors spend a record $77 billion on rental properties in just six months in the end of 2020 and first half of 2021, according to Redfin. Yet the city has a unique combination of factors that has made it especially difficult for mom and pop owners to compete, including a rental and commercial market that dropped substantially during the pandemic and still hasn’t recovered, making San Francisco an outlier where multifamily properties are trading for less than they were in early 2020. 

“Private money is still very frightened,” said Ramon Kochavi, regional manager of Marcus and Millichap in San Francisco. “The smart money is already back, up and running.” 

Small buyers are still out there, but they’re only interested in updated, filled buildings in popular neighborhoods, he said. They won’t be able to outbid larger groups to take advantage of the down market and get into a bigger building. 

“Anything over 10 to 12 units won’t be bought by another mom and pop,” said Marcus & Millichap’s Clinton Textor. He estimated that each year about 35 such buildings out of approximately 2,000 citywide change from family owners to corporate investors.

A specialty case 

Rents rose in most U.S. cities last year, pushing investment interest in the rental sector even higher. After a “historic level of trading activity” in the national rental market in 2021, the average price per unit was up 9 percent to over $180,000, according to a recent report by Marcus & Millichap. 

But after enjoying some of the highest occupancies in the country for years, San Francisco’s vacancy rates climbed as high as 10 percent, according to the report, which called the city a specialty case “in a league of its own” outside the rest of the country’s upwards rental trends. Younger tenants most likely to be paying market rents fled the city for more space and a lower cost of living, Kovachi said, leaving behind only rent-controlled tenants or those looking for better deals. 

“We see rent rolls that will turn your head,” he said. 

Though interest is up since vaccines rolled out in the spring, rents were down 25 percent at the worst of the downturn and are still well below pre-pandemic figures. Commercial rents were also down, with many ground-floor businesses shuttering. 

National institutional investors have been very interested in the single-family-home rental market, but demand for these limited homes has skyrocketed during the pandemic and most are far too expensive to attract investor interest in San Francisco. Even smaller buildings don’t pencil out for most institutional buyers, who are targeting those with at least 12 units, said Stephen Pugh, president of Compass Commercial California. 

“They’re like the square box, square peg for the private equity groups,” he said.

 With smaller owners largely on the sidelines, and only a limited number of larger buildings to attract institutional interest, the apartment sales market in San Francisco fell by all major indicators. 

There were 183 apartment transactions over the 12 months beginning in the third quarter of 2020, compared with 431 in 2019, according to Marcus & Millichap data. The average price per unit dropped 9 percent to just over $410,000 during that same time.

The overall dollar volume of apartment deals in San Francisco was about $1.4 billion between the third quarter of 2020 and the third quarter of 2021, almost 60 percent below pre-pandemic volume. 

Tenants get picky 

Agents say buildings in the city’s northern neighborhoods have held their value best through the downturn, as renters looking to upgrade took the opportunity to move to formerly out-of-reach neighborhoods like the Marina, Russian Hill and Pacific Heights. Without a return to offices, it has proven harder to fill vacancies in the downtown core, where legacy buildings have to compete with new developments that have all the upgrades today’s selective tenants want. 

Compass listed a 60-unit brick building near downtown on Market Street with more than 40,000 square feet of commercial and residential space for $28.5 million in June 2020. Despite the $2 million in upgrades needed on the century-old, maintenance-deferred building, Pugh said before the pandemic it could have pulled in that amount. But then residential tenants started leaving, and three out of six of the ground-floor retail spaces went under. Banks became unwilling to lend money on the property. 

“It was hit after hit after hit,” Pugh said. The building, which had been family-owned for decades, finally sold for $12 million below its original asking price in September 2021 to “one of the biggest private equity-funded groups in the city.” 

“They were the only ones who could stomach purchasing it and repositioning it because anyone outside of that arena couldn’t make it work,” he said. 

No one wants to sell in a down market, and for the most part larger owners and institutions have been buying without selling their existing properties, agents say. They are strong in their convictions that the rental market will eventually make a comeback and they also have the estimated $50,000 to $100,000 per unit on hand to make the improvements tenants can now demand, like in-unit washers and dryers, built-in office nooks and high-end kitchens and bathrooms. 

As with the Market Street property, whose original owner died and whose heirs had neither the resources nor the desire to be landlords in San Francisco, smaller owners are much more likely to be affected by a personal or financial crisis that makes maintaining an aging property in a rent-controlled city untenable. 

‘Vilified’ landlords

In the city’s popular Lower Haight neighborhood, Textor of Marcus & Millichap listed a 12-building portfolio last year after its original owner died and the longtime manager retired. The buildings had been in the family since the 1950s, but with many tenants paying well below market rate, several vacancies and looming mandatory seismic retrofits, the over-60-person family ownership group wanted to sell, regardless of the down market. 

Textor listed adjoining 11- and 12-unit, mixed-use properties along Lower Haight’s commercial corridor for $6.3 million in January 2021. They finally sold for $1 million less in December to a large local owner with its own property management company that also picked up several of the family’s other nearby properties.

As a small rental owner himself, Textor said he understands why so many of his mom and pop clients, or their children, are eager to get rid of properties they may have held onto for decades, especially after the original owner passes away and their “know-how” goes with them. 

With rents down, many can’t afford to hire a property manager, who typically charges 5 percent of rents, and it seems impossible to keep up in a city that is constantly adding new rental protections and regulations.

“San Francisco’s political solution to the housing crisis is to blame everything on greedy landlords,” Textor said. “It’s not terribly easy to own rental property and you’re vilified.” 

While some family-run rental housing providers are getting out of San Francisco, others have decided that the best way forward is to join forces with outside investors. 

A patriarch’s legacy

Mosser Companies is an institutionally-backed rental housing owner and manager, and one of San Francisco’s top-five biggest landlords with over 4,000 units — mostly in the city, but also in Oakland and Los Angeles. 

It started as the singular vision of Charles Mosser, who purchased his first run-down rental property in the city’s Western Addition neighborhood in the 1960s. He spent decades buying and operating multifamily properties, particularly targeting those in need of capital improvements that could boost their often-low-income neighborhoods, according to his son Neveo. 

He started working for his father’s company as a janitor in the 1980s and had held “almost every job” there before becoming its CEO in 2000. It took some “soul searching” to move from a family-owned company to one that was funded by investors, Mosser said. 

Ultimately, after his father died in 2008, the family agreed that the best way to continue its patriarch’s vision of “benevolent capitalism” was to seek outside investment to expand the business rather than “be lazy” and just let the rent checks roll in. 

“We just felt that we had a great opportunity to continue his legacy and his goals, which are our goals, and continue to provide good services and be stewards of the community,” he said. 

The largely African-American and woman-owned company had been able to grow on its own in the past. But as the financial crisis coincided with his father’s death, Mosser said he looked at the success that other rental operators had expanding rapidly after they “made the jump” to investor partnership around the same time. He thought his family’s company could do the same, but with a better outcome for the city. 

“We have local operators who have roots in a community buying into these properties, as compared to just some large institutional group that wants to come in and engulf and devour everything and has no care for its tenants or the neighborhood,” he said. “I think that’s one of the things that’s continued to set us apart from many of our peers.” 

The local connection is also a selling point to backers, according to Jim Farris, CEO of Mosser’s investment management arm. 

“We’re invested for the long-term and understand how to operate within the systems here,” he said via email. “I think this is our advantage. When we work with investors — they know that Mosser will invest with deeply set values.”

The extra backing has allowed the company to “weather the storm” of the last two years, according to Mosser, who said he feels for the smaller owner-operators who couldn’t withstand months of unpaid rents during the city’s eviction moratorium and lost their buildings before rent relief started rolling in this past spring. With its outside investors, plus rent relief and PPP loans, Mosser was able to keep all 280 employees on staff, renovate vacant units and provide tenants with hard-to-find items like toilet paper in the early days of the pandemic, he said. 

Now that the worst seems to be over, Mosser has also started buying properties, adding 17 buildings to its portfolio in the last six months of 2021. He agreed with the agents that the Northern neighborhoods have a lot of appeal right now, but he didn’t rule out further investment in the hard-hit Tenderloin, where Mayor London Breed recently declared a state of emergency due to drug overdoses and the homelessness crisis. 

The company already has significant holdings in the neighborhood, and last fall it sponsored a mural painting on the side of its 16-story Mosser Towers featuring a tribute to a Tenderloin-born visual artist. It also partnered with Urban Alchemy, a company that hires former prisoners to provide security and cleaning services to underserved neighborhoods. 

Smaller owner-operators like Textor and Wasserman, who bought his first property in the 1990s with an inheritance from his grandmother and now has more than 100 units in 11 buildings, take a dim view of the prospects for individuals trying to break into the rental market today. 

Even though he’s established — and a landlord attorney to boot — Wasserman said he hasn’t been able to buy any new buildings recently, though he’s always looking.

“I’m a glutton for punishment,” he said.

But Mosser pointed out that the majority of San Francisco multifamily properties are still under private ownership, and calls institutional capital’s role “very, very small” compared to other larger cities. He said there are still chances for someone like his father, who grew up “dirt poor” during the Depression, to succeed.

“Cities change over the years but the core values of San Francisco still exist and the core opportunities in San Francisco still exist,” he said. “So I think with hard work, tenacity and grit, the same thing can happen again and it does happen, even these days.”