So why are these buildings getting saddled with levels of debt that puts them in the red at day 1? I have a couple of answers.
Replies
1) In jurisdictions with lax rent stabilization enforcement, operators are counting on simply ignoring the law and charging marginal rents. This puts tenants at increasing risk of no-fault evictions and/or rent gouging.
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2) Lenders will take an optimistic view of revenue growth or net income projections, failing to account for rent stabilization rules or the eventual deferred maintenance debt.
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2.1) This suits both the lenders and the buyers, especially if debt obligations can be framed as something tenants have to pay for. You increase the value of your business without increasing the quality of your services. Everyone gets a boost in asset listed values for no real additional work.
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3) In Québec at least, there is some kind of quasi-shadow banking industry of private lenders that also operate non-chartered schools for would-be real estate investors. This acts as a source of artificial stimulus in favor of inflated transactions.
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3.1) The advice given out in these schools rarely spell out that some deals are rotten - they talk a lot about personal objectives. Like they won't say that you shouldn't buy below 8% cap rate, they will say it depends on what you're trying to do.
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3.2) If you're trying to build a large asset portfolio, then it would make sense to buy a lot (meaning outbidding other buyers) even if the internals are rotten. Traditional banks eventually turn down that kind of business, but you know who won't? The real estate pros teaching you all these tricks.
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4) Related to OP's point, these nonsensical acquistions can be turned into sob stories about how rent stabilization is actually hurting tenants you guys, because the internals don't allow operators to pay for the upkeep.
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4.1) This is no fault of the tenant! They are getting worse service in exchange for more money! If you were looking to buy a restaurant, you couldn't bank on keeping the same menu but increasing your prices by 150% to even out your finances after outbuying other interesting buyers.
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4.2) In most other conventional businesses, consumers will react to declining value by taking their business elsewhere (obligatory observation about seller's inflation helping make sense of the real frictions here, even in ordinary goods and services).
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4.3) But in housing services, the seller is always a monopoly. This is an old observation - it's in Wealth of Nations, it's the foundation of georgism, it's the location-location-location of realtors. Residential units are non-fungible, you are always bargaining for a thing with no exact substitute.
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