Real Estate Interviews

10 Questions with a Real Estate Executive

Interview conducted by Benny Kay and Tyler Thornton

1. How did you get your start in the Real Estate industry?

I had my first real estate experience while I was still in high school. I worked for Holiday Inn as a lifeguard and pool manager, and that was really my first exposure to the business. I really liked that job, and, you know, at first I was just a lifeguard but ultimately I ran the pool. I hired the lifeguards, I was responsible for opening it up, getting it ready for the season, closing it up when the season was over, and I did that for eight years during high school and college. I really liked it, and it was rewarding hiring good people and doing improvements, such as staining the chaise lounges and pool railings and painting the pool area.

It was a very rewarding, fun experience, and I made a lot of good friends who worked with me there. So that was really how I got started. Then, in college at the University of Illinois, I had friends who were getting really interesting jobs and internships at real estate syndication companies that were buying multifamily properties. There were big companies in Chicago like Balcor, JMB, and VMS, that were buying apartments and other asset classes using tax incentives that existed in the eighties. Just as I was finishing up college, they were buying huge amounts of property across the country. I enjoyed working at a hotel on the operations side of things, but I thought, "how can I get one of these jobs where I can be on the investment side and buy property?". For me, that was the next step. That's what I really wanted.

I looked for jobs during my senior year at Illinois at all the companies I mentioned earlier and couldn't even get an interview. I just didn't have the connections and didn't have the GPA. I did find a company called AMLI that was interested. AMLI was a newer company. They were a developer and acquirer of multifamily and office properties. I interviewed there and ended up getting an internship over my Christmas break. I worked in their Atlanta office and it was a kind of test drive for them. I didn't get paid much, but they fed me and that was just as good, and I got a free ticket to experience Atlanta so it was a win-win situation.

And that's where I decided to work after I graduated. They didn't tell me what I would be doing, but they said I had a job if I wanted it. When I got there, they said "we need you in office brokerage". It wasn't the acquisition side of the business, which was what I wanted, but I was just happy to have the job.

I worked with a group at the time that was looking to create a tenant rep business. They hired me and one other guy to be the junior brokers, and our job was to canvas all the office buildings in Chicago to find tenants who were interested in relocating. So tenant representation is what I did my first two years at AMLI. I really liked it and got good traction. During those two years, I sat in a cube across from this guy named Pete Vilim who had an office. Pete was in charge of apartment acquisitions and at that point he needed another body. Pete and I were friends and I said I'd like to volunteer for that position. So, I ended up moving over to apartment acquisitions and working for Pete.

That was what I wanted. That's what interested me. But, I had actually really loved the tenant rep business all the cold calling, trying to creatively figure out ways to convince people to move their office space, and those commissions are big. It's a lucrative business if you can get activity going and I did get some big deals done. I had to finish the deals on the tenant rep side before I moved into Pete's group. That was in 1987-88 and that's really when I cut my teeth on multifamily investments. Pete was an incredible mentor, one of the smartest people I know. He's my partner here at Waterton, which we co-founded together. He taught me so much.

Back then, there were a lot of tax considerations and Pete was a tax guy. He came from Coopers & Lybrand which, back then, was one of The Big Eight accounting firms. He has a master's degree in taxation from DePaul and he also behaved like a lawyer, even though he never was trained in law. He knew more about the legal side of transactions such as contracts and loan documents than any lawyer I knew. He was a great mentor.

That was also around the time I started thinking about getting my MBA. I went to Booth at night and did it part time. Two or three years later, after I got my MBA, I ended up at Equity Group Investments to do apartment acquisitions there.

2. In what ways did your MBA experience at Booth contribute to your professional success?

When you decide to get your MBA and go to an institution like Booth, it's hard to figure out how that's going to help you. That's always the big decision. Is it worth the money? Is it worth the time? What am I going to get out of this? I was making the bet at the time that it would help me to better understand the financial side of the business, the economic side of the business, and build the skill set to better evaluate things. That's all I had in my mind.

The reality is, I got a lot more out of Booth then I ever thought I would. The networking and relationships were things I never expected. I also gained an understanding of general business and valuation, which can be applied to real estate, big private equity deals, or venture capital. The fact that I majored in economics and gained a very strong foundational understanding of economic theory, has helped me make decisions throughout my career.

Real estate is a microcosm, but, at Waterton, in our investment committee meetings or any time we're talking about deals, I'm always looking at the underlying economics of supply and demand. It is really a simple concept. For those who haven't had a Booth experience, that may not be in their thinking - but it underlies all my investment decision making..

Those are the pillars. It's networking, valuation, and economics. We also did have a real estate curriculum. Back then I think maybe there was one real estate course, but it was very memorable for me. It was actually taught by a couple of guys who came from JMB. They brought real deals in to the classroom so we were able to apply much of the finance curriculum to actual deals. That is where I honed in on valuation and real estate underwriting.

My experience at Booth was hard as hell! It was one of the most mentally challenging things I've ever had to do. Go through Booth, do it at night, and have a job at the same time. I ended up finishing full-time for the last quarter because it was too hard to go to Booth and hold a full time job

3. You've obviously scratched the entrepreneurial bug (co-founding Waterton in 1995 with Peter Vilim). What led you to deciding so? What advice would you give to budding, young entrepreneurs (and/or want-to-be entrepreneurs)?

It certainly wasn't common sense. I really had a good position where I was. In 1995 I was the head of acquisitions for Equity Residential. We were only formed in 1993, so I was in a high position at a very fast-growing multifamily REIT. Even at that time, I think it was the largest US multifamily REIT, and I liked it. I liked the culture, so really it made no sense to branch out on my own. I had the potential to make a lot of money with the stock options because I was there the day we went public.

All I can say is, many entrepreneurs like myself have this sense that it really doesn't matter where they are, they just want to create something on their own. That's how I felt, I just wanted it in the worst way. Instead of having a reasonably sized piece of this big pie, I'd rather have a real big piece of a very, very small pie. I look back on it and I think I would be angry at one of my kids if they wanted to walk away from a great job like that but, I'd also be the first to understand why.

Entrepreneurship, which now is taught at Booth and a lot of other schools, was not taught back when I was at Booth. I believe part of the reason entrepreneurship wasn't taught at universities is because a big part of it is simply instinct. A lot of entrepreneurs really just want to be on their own and a lot of it may not make business sense.

When I first started thinking about it, I was seeing these small entrepreneurial companies coming through the RTC period - this very distressed period in commercial real estate that was driven by the S&L crisis of the early '90s. We had this massive liquidation of commercial real estate through the Resolution Trust Corporation and these smaller entrepreneurial companies were some of the buyers of these distressed assets. EQR was founded as the RTC was liquidating, but we were not buying direct from these distressed government agencies. We were buying from the entrepreneurs who were buying distressed property - small groups of very crafty people who were buying from the RTC.

One of those people was Barry Sternlicht, the founder of Starwood Capital. It wasn't a big company at the time, but in 1993 they had already bought about six thousand apartment units from the RTC. As part of the EQR IPO, we agreed to purchase the whole apartment portfolio from Starwood. That really helped seed the REIT, and to get us some scale. This is where I had the idea to start my own apartment investment management company. I didn't think I could be as big as Starwood, but there were many smaller companies that had accumulated five hundred units or a thousand units. I saw how successful these people were and thought, this is the type of business that I want to start. By the time these apartment deals were being liquidated, they were pretty distressed. They were capital starved and sold for very low prices. You could go in there and buy them and fix them and then you could sell them to an EQR.

Those were the two things that helped drive my decision. Knowing that I had on-the-ground experience with the kinds of opportunities presented, and this instinctive urge to start something on my own. Those two things collided in 1995.

o I made the move. I called Pete because I needed a partner. I knew I could find the business to do, but I'd needed someone to help me actually execute the business. Someone who knew the legal side, the accounting side, the partnership side of things. Someone who could do the investor reporting, asset management and supervise all the different parties. Someone to stay in the office and deal with all of that, so I could go out and find the deal, find the capital and keep doing the same thing. Pete got very excited about that because he's not as entrepreneurially inclined. It took a lot of conversation to get him to leave his job, but eventually he was on board.

And that was the deal - he's the inside guy, I'm the outside guy. Of course, the other strategy I had was that we were going to buy, fix, and sell, so we'd never get that big, we were not going to hire a lot of people, and we were going to outsource to best-in-class operators, contractors and construction management companies so we never have to hire people. That was the business strategy and fortunately Pete agreed to do it.

4. When you started Waterton, investing in Class B apartment projects were not typically considered an "institutional" investment. What drove you to "buck the herd" and what obstacles did you encounter along the way?

That is easy to answer. Back then, the Class B apartments were low in price with very high cap rates, and that's how we were going to get these extraordinary returns. The other theory I had when we started Waterton was, as long as I could deliver really good IRRs and multiples, we could raise the money. And so, in that Class B space, we were really yield and return-driven. That meant more risk, but we were comfortable with the risk.

Those Class B properties, at the time, were kind of crappy properties. They were tired, had deferred maintenance and low rents. Those were the risks, but we were comfortable with that because we were getting a high enough cap rate and return for taking that risk, and we haven't pivoted too much from that strategy to this day.

We tend to follow the rules that we started with from day one. One rule is that we need these higher, extraordinary returns. So Waterton always has, in our funds, required a higher return target than many of our peers. Second, we're always looking at our total cost and what is the discount to reproduction cost? We have to have a spread between the reproduction cost and our cost. We always want cash yield, because cash yield always protects you. Even if you have five percent cash yield per year, if you hold the property twenty years, you will get all your money back. That's kind of the worst-case scenario assuming your yield never grows. Yield can protect you if other things don't work out.

We have always followed those rules. There are other things we don't compromise on such as location. The top three rules of real estate are location, location, location. We stick by that, and because of that, what has happened over 25 years is we have a top quartile track record. In some cases top decile for people who do value-add multifamily investments, and that's extremely important for us to maintain.

5. Recently you mentioned in an interview that Presidential Towers was your favorite project to date. Is that still the case and, if not, which professional accomplishment are you most proud of?

Well, I do think professional accomplishment and favorite property are two very different things. As far as favorite property, it really is Presidential Towers. I think it is my favorite, because it's two blocks from our corporate office and it's the largest apartment rental community in Chicago. Chicago is our home town, our headquarters and backyard. We're very proud of it. Presidential Towers is in the thriving West Loop and every year we've owned it, the West Loop just gets better. It's kind of the transportation hub of Chicago, with Union Station, Ogilvy, and the Kennedy all right there.

I love how we're constantly adapting the property and changing it. It provides a reasonably affordable housing product that is hard to get in this part of Chicago. All those things make it my favorite property, but there are a lot of others in the portfolio that I like as well.

I think as far as my professional accomplishments, what I'm most proud of this year is that I've been appointed chair of our leading industry trade group, the National Multi Housing Council. It's a real honor because it's all my peers and people I've worked with over 30 plus years in the business and now I get to serve them in this role. It gives me a way to give back to the industry that's been so good to me. It's very rewarding to work with such a great group of people. The team and staff that run our trade group are some of the smartest people in our industry.

It's a lot of fun, but it's also going to be challenging. Our industry is facing a lot of potential headwinds and disruption but to be chair during this point in time is an honor and privilege and I'm excited to be leading the industry in all of these efforts.

6. At the 2016 Booth Real Estate Conference, you talked on the panel about disruptors in commercial real estate, or as you called them at the time "micro-disruptors" in the multifamily space, things like the increase in package deliveries, drone delivery, driverless cars, Airbnb, and others. How have your views in that space changed over the last few years and where do you see those disruptors heading in the future?

I remember on that panel there was a retail person who was dealing with macro-disruptors, significant disruption from Amazon and online purchasing which was disrupting the regional mall business. The hotel industry has been significantly disrupted by Airbnb and home-sharing. And office has been affected by co-working and WeWork. Those are more "macro."

Multifamily has not had macro disruption yet, but I am a cautious warrior. I think, "What's going to bite multifamily? What's going to be our Amazon? What's going to be our macro-disruptor?" In 2016, all I could see were the micro disruptors and these are ankle biters. Packages are a pain and we have had to add man-power. For example, during the holidays at Presidential Towers, we had six people dealing with all the packages and we needed more space but that really is a micro disruptor. Airbnb is a macro disruptor for hotels but in multifamily it's micro.

Now we're in to 2020 and it is more apparent what could disrupt our industry. I don't know if I was predicting this in 2016, but I'd say our number one disrupter is Government. Government disruption is a result of our success in a ten-year run of rent growth run that has created a housing affordability crisis across the country. It's in the papers every day and for the first time it's part of presidential debates. Bernie Sanders, four days ago, tweeted about national rent control.

Now rent control is being discussed at some level in more than seven states. It's been implemented in Oregon and California. There's a new California referendum on the ballot in November. New York passed a very draconian rent control bill in June of 2019. Regulation by government is not just rent regulation. All kinds of regulation are potentially macro disruptors to us and that is a result of our success. That's number one.

Number two is technological innovation, which our industry is behind on. That will impact us in good ways but also negative ways. That's why it is important for our industry to be at the forefront of innovation. The positive impact will be that we're going to become a lot more efficient in operating, we'll be more profitable per employee on a property, and we'll be able to automate more processes. There is already self-touring technology available, so maybe you don't have to be open on the weekends. I think that's a positive disruption. There is other technology that could create more revenue at our properties by selling more things to our residents because we technically control the last mile.

The negative side of technological innovation is the potential for data breaches. We have highly sensitive information - social security numbers and other personal information on our residents - to protect, but fortunately our industry has not been materially breached yet. Lastly, on the communication front, with 5G and what happens with data getting in and out of our buildings and how the FCC controls that and regulates that.

Then we have the environmental disruption that worries us. More frequent storms, more frequent fires, that result in higher insurance costs. We've seen massive increases in insurance premiums. Is there a scenario where certain types of events can't even be insured? Do we want to own those properties? Are there certain properties in locations that will be underwater by 2045? It's a sustainability and resiliency issue that we really have to be careful about.

There's a lot of these disruptors out there and we have to be very vigilant as owners and as an industry on behalf of our investors, because we do not want to be the next Class B regional mall business.

7. How does Waterton protect itself against these disruptions and how does that impact investment philosophies going forward?

We are investing a lot of money in innovation and technology to make sure we're on the leading side of technical disruption, rather than catching up from behind. I think it's important to be a leading force on that front, and we're putting a lot of money into things like business intelligence. There is so much data out there, and being able to use that data to figure out how to make better decisions, I think is going to be really critical.

On the environmental side, we are looking very carefully at locations that are prone to storms, or earthquakes, or any of these types of events. Asking, "should we get a return premium on that?" Today, we are already underwriting very high insurance costs and continuing to increase those costs above inflationary levels. When we do that, it doesn't make us as competitive to buy them, so they're harder to get through our system. We've been more active in investing, today at least, in places with less storm risk. Although we did buy three properties in Houston last year, we've also been buying in places like Phoenix and Las Vegas which have lower casualty risk.

I really love fast growing states, which generally today are red states, low tax burden states, and low storm-risk states. Colorado, Arizona, Nevada, Oregon, Washington state, Georgia, and places like that. You have to think hard about buying in a market like New York City, which has a high tax burden and high regulation and you do have storm risk, trust me. We owned something during the last big hurricane there, Sandy. You want a return premium to deal with those disruptive risks, and that's the way we think about it.

8. You touched on the topic of housing affordability and things like rent control a few questions back. How are you approaching those risks specifically from a strategic perspective?

The first thing is, companies need to understand those risks and where they exist. They are local, state and federal, so having an understanding of the regulatory environment is important. We have a legal department here and we do spend a lot of time understanding that regulatory environment. I think it's complex and I think certain investors underestimate that complexity and potential risk.

We've been buying rent regulated buildings for 15-20 years, and we've actually done very well with them. We have no problem buying rent regulated buildings, but you have to buy them at the right price so you can get your returns, that's the key.

What we don't like are buildings that are unregulated now, but have high risk to become regulated and it's not in our assumptions. That will be the challenge potentially with California and certain municipalities there. You could buy an unregulated building in Santa Monica today and then Prop 10 passes in October and Santa Monica's going to say no more rent growth, even on your vacant units. Those are risks that you have to be very careful with. It's the uncertainty.

Chicago has some risk right now too. It's well known we have property tax risk and that we don't know where the property taxes are going. So, how do you underwrite that when you don't know how high the property taxes will be? Our view is you just have to figure out a level that you're comfortable with that is conservative. That's more art than science in a lot of cases, and we have to make a lot of those risk-reward decisions.

9. Several of our students recently attended an event with Maurice Cox, the new commissioner of the Department of Planning and Development, where he stressed the importance of linkage between public policy, development plans, and private investments. What impact does the new administration have on Waterton's investment strategies locally in Chicago?

We're not really developers, so for us it wouldn't have much impact. My only comment on that is there is inclusionary zoning, which basically makes developers build affordable units along with their conventional units. The more you increase that requirement, the more it's going to be a hindrance to making new deals pencil. With public policy, I think you have to be careful, because unless there's an economic benefit for the developer to build those affordable units, It's going to be an economic detriment to their modeling and they can only handle so much of that.

I think there's inclusionary zoning and then there's harmful inclusionary zoning, and the more you push it, the more it becomes harmful, and that shuts down development. That's what this administration has to be careful with.

I know everyone's complaining that all the new development is super luxury, Class A, high-rent development and that's very true. But the more of that product that's put into the inventory, the more edge it takes off the rent increases on the older product. That's kind of Booth Econ 101. No matter where the supply falls, that supply is going to impact price because the demand is what it is.

Trust me, developers will overbuild if the municipalities don't put so many restrictions on them and the capital is flowing. Right now the capital is flowing, and it's the municipalities that are slowing it down and that's what keeps the rent increases from getting out of control.

We've had good rent growth in Chicago, but it would have been much worse without all this new supply. People move out of the Class B to upgrade to the Class A, and that creates more Class B inventory. That suppresses pricing, so let the builders build.

If Chicago wants to incentivize developers to build more affordable units, then we should give them economic incentives like bonus density. That doesn't cost the city anything. Something like, you can go up ten more stories if you build thirty more affordable apartments. Give some more liberal zoning or other benefits like tax abatements. New York, given all its problems, is great at providing tax abatements in exchange for providing more affordable units in developers' buildings.

I'm okay with some level of inclusionary zoning, because all municipalities have something like that. Whether they call them impact fees or inclusionary zoning, they're trying to get something out of the developer. But this administration needs to be careful or they're just going to shut down the pipeline.

10. What advice would you give to Booth students interested in making a career in real estate?

I have a son who is starting to make a career in real estate, so this is the same advice I give him. Pick the firm and not what you do – that, I think, is the most important thing. Obviously, if you can get a job doing what you really want to do and pick the right firm, great. But It's really the firm that is going to provide mentorship. Of course it needs to be accompanied with a good name, with high integrity, and a firm that is able to access the capital markets. Those are all the definitions of good firm, and that can be newer, older, large or small. Those things don't matter if It's a good firm.

I look at my career path. I didn't want to graduate college and be a tenant rep. I never even knew what that was, but I picked the firm and the people I liked. I liked what they were doing, they had success, and they were able to access capital. Accessing capital is critical. You could be with two great guys starting in business but if they can't access capital yet, that's not good.

And that mentorship piece, there's going to be people there who are going to teach you, mentor you, challenge you, and criticize you. Mentorship is also about telling people what they're doing wrong, which is not always pleasant. I look at my mentors at AMLI and Equity and the people I learn from now, and that's who I attribute my success to. That's what I tell my son, to find that type of company.

(Bonus Question). As mentioned, fund-raising is a critical component of any private RE firm's success. What tips (or do's and don'ts) would you offer up?

Access to capital is so important. The most important thing is your track record. If you don't have a track record it's hard to raise capital. I think for companies starting out that don't have track records or they're kind of leveraging off previous track records, performance is so critical.

Investors have a lot of options and if you stub your toe right out of the starting blocks, that's not very good. But the thing is, you will stub your toe. Not every deal is perfect, and when things go bad it has to be an all-hands-on-deck, fully-loaded transparent conversation educating the investors about how you will get out of the situation, and being accountable. Owning it is super important.

All investors get involved in bad deals and they want partners who deal with those situations with the highest level of integrity and transparency and who will do whatever they can to preserve their capital, get their money back, whatever the threshold is.

Today we're in probably the most competitive market to access capital there is. There is probably more private equity in real estate funds today than there's ever been. Everyone has an angle, and I think sticking with what you do best and not trying to deviate is important.

We have always described ourselves as value-add investors. We really don't deviate from that. We only like to buy things where we know we can go in there and fix something and lift the income or create value. That's in our DNA and we hold true to that.