Welcome to Part 3 in our series on multi-family conversions.
In Part 1, we reviewed the history of multi-family conversions, looked at the current social, economic and housing trends behind their surging popularity and considered the plusses and minuses of adaptive reuse.
This post is about factory and hotel conversions, which have been the second and third most popular types of multi-family conversions over the past decade, respectively.
First, a detailed look at factory conversions.
Factory to Apartment Conversions
For decades, factories accounted for the most multi-family conversions, with nearly 2,000 factory buildings converted to apartments over the last 70 years28. After being bumped from the top spot by offices from 2013 to 2019, then surpassed by hotels and offices in 2020, the pace of factory conversions is expected to pick up again this year, with 9,170 units planned, second only to offices29.
Since factories targeted for multi-family conversion were likely vacant long before the pandemic struck, it’s doubtful the pandemic had much of an impact on factory conversions. However, the other factors that have spurred conversions in other property sectors likely have, including the housing shortage in the US, rising home prices and the enduring popularity of city living.
Good Candidates For Multi-family Conversion
Old factories make good candidates for multi-family conversions for several reasons, including:
- Sturdy construction
- Large square footage
- High ceilings
- Open floor plans
- Few internal load-bearing walls
- Attractive, original features, like exposed wooden beams, brick walls and ductwork
- Their often-colorful history; factories that once produced ice cream, cigars, pianos, shoes and even Ovaltine have been converted into apartments
Another reason factory conversions appeal to developers and investors is the project may qualify for public financial assistance, including federal historic tax credits, city financing or Tax Increment Financing– known as TIF—in which future property tax revenues from a defined area are used to help offset the cost of an economic development or public improvement project.
Affordable Tax Credits
In addition, if a certain percentage of the apartments are offered at below market rent to people earning 60% or less of the local median income, the developer may qualify for federal affordable housing tax credits, which they can sell to investors to raise cash30.
Appealing To Renters
Apartments in converted factories appeal to renters for many of the same reasons they appeal to developers and investors—high ceilings, open floor plans– plus they often offer a unique combination of old and new; original architectural features and embellishments, paired with modern interiors and amenities. The feeling of being connected to local history can be a draw too.
Potential Challenges to Multi-family Developers
As with any old building, factories can present their fair share of challenges for developers. Chief among them are:
- Depending on what was manufactured there, an older factory and its grounds may be contaminated by any number of hazardous substances, including lead, copper, mercury and asbestos. If the site is contaminated, remediation will be necessary, which can be very costly and time-consuming, even with government assistance. For that reason, a thorough environmental survey and physical inspection should be conducted on any old factory site before committing to a conversion.
- A good example is the conversion to apartments of the former Peters Cartridge Factory in Lebanon, OH. Bullets and ammunition were manufactured at the factory for decades, leaving the site heavily polluted with lead, mercury and copper. Because the site was so polluted, it sat empty and neglected for 52 years, until the EPA paved the way for a cleanup and then a creative and persistent developer converted it into a mixed-use development with 134 apartments31.
- Structural damage, including to walls, floors, girders, support beams and roofs.
- Old, outdated mechanical systems, including plumbing, electrical, boilers and elevators. Because the mechanical systems for apartment buildings are very different from the mechanical systems for factories, these will likely need to be replaced anyway.
Hotel to Apartment Conversions
Between 2010 and 2021, hotels were converted into 18,129 apartment units, the third most conversions by property type over that period, behind offices and factories32.
In 2020 and 2021, the peak years of the pandemic, 216 hotels were converted into 3,908 apartments, the most conversions by property type during that period33. Projections are that in 2022, 8,032 apartments will be created from hotels, again the third most behind offices and factories34.
Hotels Were Hit Especially Hard By The Pandemic
The pandemic hit hotels particularly hard in 2020, plunging the occupancy rate to 36.7% in December, down from 66.1% the previous year. In April 2020, 8 in 10 hotel rooms were vacant, an astonishing statistic. Hotel Revenue Per Average Room (RevPAR), also took a huge hit in 2020, falling 60% from 2019, from $86.8 to $3435.
Upscale Hotels Were Hurt Worst
Upscale hotels, which cater to business and group travelers, were hit hardest by the pandemic, with combined revenues from the Marriott, Hilton, Hyatt and IHG chains dropping 50-60% from 2019 to 2020. By contrast, revenue for midscale hotel operator Choice Hotels International dropped only 30% during that period. Average RevPAR for the hotel industry is not expected to recover to pre-pandemic levels until 202436.
Losing Market Share to Short-Term Rentals
While much of hotels’ current struggles can be blamed on the pandemic, Covid-19 hastened trends that already existed. Prior to the onset of the pandemic, hotels had steadily been losing market share to short-term rental companies, like Airbnb and Vrbo, as consumer preferences shifted from traditional hotel lodging to more authentic and localized travel experiences.
In 2020, while hotel vacancies skyrocketed and revenue cratered, Airbnb totaled $23.8 billion in gross worldwide bookings, exceeding the combined gross revenues of the Marriott, Hyatt, IHG and Choice Hotels chains37.
Extended Stay Hotels Best For Multi-Family Conversion
Although many types of hotels have been converted into apartments, extended stay hotels tend to work best because the units already have multiple rooms and ample windows and are usually equipped with kitchenettes. Also, the mechanical systems in extended stay hotels, like electrical, plumbing and elevators, generally don’t require major updates or changes, since they’re similar to the mechanical systems in multi-family buildings. In addition, limited-service hotels generally are less expensive to acquire than full-service hotels39.
Sizing Up A Hotel
When assessing whether a hotel is a good candidate for conversion, other factors to consider include:
- The age of the property. Older properties are likely to have more wear and tear on them and their mechanical systems will be older, so a conversion may require more work, time and money than converting a newer building would. In addition, local building codes may have changed since the hotel was originally built, so the structure might require significant and expensive updates to bring it to code.
- Zoning. The parcel the hotel is on not may not be zoned for apartments, in which case the zoning will need to be changed. This can often be a complex, lengthy and expensive process and sometimes, in the end, the zoning doesn’t get changed anyway, for a variety of reasons.
Affordable Housing Shortage
Hotels have been converted into all classes of apartments, from luxury to temporary homeless shelters. However, most hotel conversions have been to affordable housing, targeting an altogether different group of renters than office, factory or retail multi-family conversions.
Due to the current shortage of affordable housing in this country, demand is high for the affordable apartments created by the conversions. In addition, affordable housing conversions often qualify for Federal financing, including Low Income Housing Tax Credits (LIHTC) and funds from the Home Investment Partnership Program (HOME), increasing their profitability. Also, because Federal agencies measure affordable housing based on the number of units in a development, not the size of the units, hotels are ideal for converting to affordable or Section 8 housing.
Financing Hotel to Apartment Conversions
Developers for hotel to affordable housing conversions typically use private debt or a bridge loan to acquire the property and renovate the units, then convert to more traditional financing once leasing begins40. A future source of financing for affordable housing conversions will be the Federal Government’s American Rescue Plan Act, which includes $5 billion that could be put towards converting properties, including hotels, into housing for the homeless41.
Next Up: Converting Struggling Shopping Malls to Apartments
That concludes our discussion on factory and hotel conversions. Next, we’ll take an in-depth look at the growing trend of converting space in struggling shopping malls to apartments.
About The Author
Terry Banike is Realogic’s marketing manager. Over the course of his career, he has worked in marketing, communications, journalism and public relations, and has written numerous news stories and feature articles for newspapers, trade publications, newsletters and blogs. A rabid reader of anything and everything on commercial real estate, Terry closely follows commercial real estate news and trends and frequently posts about real estate on the Realogic Blog. He can be reached at firstname.lastname@example.org.