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The Benefits of Vertical Integration

The Benefits of Vertical Integration

If you were to ask my take on vertical integration in an apartment company, in a nutshell my response would be something like this: "If done correctly, the benefits are enormous. But you have to do it for the right reasons. Otherwise, it's easy to mess it up."

Over the years, I've seen too many apartment owners create their own property management and construction divisions for the wrong reasons. Maybe they simply want to be able to tout their vertical integration to help them raise big money. Or perhaps they're just focused on maximizing the revenue streams these entities may create. 

If you're an owner with these motivations, I'd strongly recommend against launching an in-house property management and/or construction company. The chances are, things will go wrong before they go right. 

But if your focus is on building in-house divisions with the proper expertise and experience in place to optimize the performance of your own portfolio, then you and your investors can reap significant benefits from vertical integration. 

For starters, when you have your own property management team running your apartment communities, they're bound to be extra motivated to do all they can to boost property performance and the bottom line. Plenty of third-party managers out there do great work – I'm not saying they don’t – but a fee manager's compensation structure might not necessarily result in them doing everything they can to maximize a property's revenue and performance. Stated another way, you're (hopefully) going to look after your own children better than anyone else. 

Self-managing also can pave the way for an efficient, more streamlined decision-making process about operations at a community. When market conditions change, onsite strategies and tactics can be adjusted quickly when ownership and management are one and the same. On the flip side, when a third party is running a community, communications between owner and manager can be unwieldy and the decision-making decidedly inefficient. 

On the construction front, having an in-house division can save an owner a significant amount of money. First off, you're no longer paying the general contractor fee, which often comes to about 20% of the total construction cost.

Furthermore, when you have your own construction entity, you can buy your construction supplies in bulk from overseas, store them in warehouses that you own and use them as needed. That's another way to save money and, especially in a time when construction costs are so high, saving that fraction of a dollar on everything can be so important. 

Also, having your own in-house division makes the actual building and renovation processes much more efficient. When the construction team is on your payroll, they're around to do the renovations on one property, and when that one's done, they're going to be ready for the next renovation.

Conversely, when you don't have it in-house, every time you want to put on a new roof or renovate a clubhouse, you've got to collect multiple bids and make sure they're all apples to apples. You've got to make a painstaking decision and hope you get it right. 

To be sure, having your own property management and construction divisions can bring higher workers’ compensation costs and subject you to more liability. Those are not considerations to dismiss quickly.

But if an apartment owner is careful and deliberate in creating in-house property management and construction teams, its portfolio and its investors can benefit significantly.

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