Are you a passive real estate investor interested in commercial real estate? If you’re deciding between ground-up developments and value-add deals, keep reading.
In this article, I’ll break down the differences between ground-up and value-add deals and help you understand their associated risks, timelines, and processes.
Understanding Ground-Up Developments
Ground-up developments involve funding the construction of a brand-new property from scratch. I know several investors who love this strategy because there’s a housing supply problem and developers are bringing new units online to meet that need. But I have 2 main problems with this type of investment:
The biggest is that there isn’t any cash flow during development. During the construction process, normally between 2–3 years, the site and property isn’t bringing in any income. The only time you’ll get paid is at completion and sale.
The timeline doesn’t really bother me, I buy and hold multifamily properties for the same length. The main difference is that I’m getting paid quarterly, not only when I sell the property. So if you want passive income you get monthly or quarterly, this strategy might not be for you.
My second problem with ground-up developments is that they have a high dependence on future market conditions. Profits rely heavily on the property being sold at forecasted prices. If the market takes a downturn during the development period (similar to now), investors may face losses.
For example, in 2024 we saw 600,000 new units come to the market. These properties began in 2022 and 2023, but now lots of them are sitting vacant because developers built a class of multifamily that consumers couldn’t afford: Class A units.
The combination of 1) no passive income during the year and 2) unpredictable market conditions at completion make this investment undesirable to me.
Why Value-Add Deals Are the Preferred Choice
In contrast to ground-up developments, value-add deals involve improving existing properties to enhance cash flow and overall value. This gets me excited.
Obviously there are risks that come with this investment choice as well. If you invest with the wrong operator, they can drive the deal into the ground and lose your money. Lots of its risks come from inexperienced operators, so be careful who you invest with – for both investments.
Here’s why I prefer value-add deals:
- Cash flow from day 1
Unlike ground-up developments, value-add deals generate income immediately. You’d be investing in an already-functioning building with tenants and income and fixing it up to generate more income.
With the right operator (and their teams of contractors and property managers), you can expect improvements to be completed within 2–3 months. Plus you’d receive distributions monthly or quarterly (depending on how the deal is structured) and get paid again when the property is sold.
- Reduced market risk
Because value-add properties are already cash-flowing and in (hopefully) performing markets, investors can weather market fluctuations more easily. Ongoing income helps cover mortgage payments and other expenses, reducing the overall risk.
With the right operator, a deal in the right location with growing population, increased demand for affordable housing, and amenities renters want, value-add deals are generally more straightforward to execute.
You’re basically investing your money to improve what’s already working, and earning a profit.
Join the Nighthawk Investor Club
If you’re ready to explore value-add deals, gain insights from experienced investors, and access exclusive opportunities, the Nighthawk Investor Club is here to help. At Nighthawk, we prioritize transparency and education, ensuring that our investors stay informed throughout the entire process.
By joining the club, you’ll gain access to valuable resources, expert tips, and ongoing support to help you grow your passive income portfolio. Whether you’re a seasoned investor or new to commercial real estate, our team is here to guide you every step of the way.
