Scarcity Through Zoning

On today’s show we are talking about scarcity through zoning. I often have discussions with investors about whether things should be easy or not. If it’s easy, anyone can do it. The barrier to entry is low and eventually the market will become saturated. 

We see this regularly in cities like Houston where there are no zoning restrictions. This means you can put anything anywhere, and people do. For the most part, the market forces seem to take care of things and common sense generally prevails. But if you wanted to put a daycare next to an oil refinery you could. If you wanted to build a strip club next to a church, you could. 

The good news is that you face very few regulatory barriers. That makes it easy, or at least easier. As long as the municipal utilities district has capacity and commits to serve your property, you can build. As long as your design meets the requirements of the fire Marshall and the building code, you can build. The good news it’s easy, and the bad news is it’s easy. 

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Episode Transcript

(00:01):
Welcome to the Real Estate Express, a podcast.
Your morning shot of what's new in the world of real estate
investing. I'm your host, Victor Minash.
On today's show, we're talking about scarcity through zoning.
I often have discussions with investors about whether things
should be easy or not. Well, if it's easy, anyone can
do it. The barrier to entry is low and
eventually the market will become saturated.
Just like adding an additional vehicle to the Uber fleet.

(00:24):
The barrier to entry is almost 0.
We see this regularly in cities like Houston, where there are no
zoning restrictions. That means you can put anything
anywhere, and people do. For the most part.
The market forces seem to take care of things, and common sense
generally prevails. But if you wanted to put a
daycare next to an old refinery,you could.
If you wanted to build a strip club next to a church, you

(00:45):
could. Good news is that you face very
few regulatory barriers. That makes it easy, or at least
easier. As long as the Municipal
Utilities District has the capacity and commits to serve
your property, you can build. As long as your design meets the
requirements of the fire Marshall and the building code,
you can build. The good news is that it's easy,
but the bad news is it's easy. We've seen numerous cycles

(01:09):
where, as a result of growth andprojected growth, the Houston
market has become oversupplied in several different asset
classes. The other end of the spectrum is
where land use is restricted through zoning in the city's
master plan. This can, and often does create
shortages of certain land uses, which can drive up the value.
That barrier to entry makes it hard.

(01:29):
Getting a property rezoned is possible sometimes, but rezoning
carries considerable risk. You might not get approved even
if you think your concept makes a lot of sense.
In that case, the barrier to entry could be very high, and
high prices sometimes make no sense.
We've all seen cases where high macro prices don't seem to make
any rational sense. But high prices can also be

(01:49):
indicative of high demand in a shortage of supply.
And it's that high demand that provides a bit of a safety net
for your investment. If it became easy all of a
sudden, there could be some impact to the market.
But these things happen slowly. We've seen examples where some
cities have eliminated the R1 residential zoning that has
thrown the field wide open for multifamily construction in

(02:11):
areas that were previously zonedfor detached single family
homes. But even in those cases, the new
supply for multifamily applications has been slow to
materialize. Let's look at 2 case studies.
A study on Minneapolis found that after its 2019 zoning
change, there was a reduction insingle family permits, but no
conclusive immediate difference in total or multifamily units

(02:32):
permitted in the short to intermediate term.
And that's measuring from 2016 all the way through 2021.
That suggests the policies full effect on housing supply is
probably going to take a decade or more to materialize.
Another example is California's SB-9.
That law allows for property owners in single family zones to
split their lots and build up to4 units.

(02:53):
They've had very limited uptake initially.
As of December of last year, onereport noted that only 660 SB 9
applications have been submittedstatewide, with only 25 projects
reaching completion. That indicates that while the
legal barriers removed other factors like high construction
cost, other bureaucratic hurdlesand complexity of developing the

(03:13):
missing middle, housing still isa slow process.
When SB 9 was implemented, the Turner Center estimated the new
legislation would enable about 700,000 new units to be built,
especially in high population cities like Los Angeles.
But clearly the barrier to new supply is more than just zoning.
In cities where there's been a lot of missing middle product,
there's a shortage of developerswho have the capacity or even

(03:35):
the interest to invest in that product type.
Smaller buildings tend to be hyperlocal in nature and they
they're too small to attract institutional capital.
They're too small to effectivelymanage unless you can build a
cluster of properties that couldbe aggregated together.
I've personally been involved indesign and construction of these
types of buildings in Philadelphia, where we use land
assemblies within the confines of the zoning to build the

(03:57):
allowed density that was subjectto the existing 38 foot height
restriction. In some cases the buildings were
9 units or 11 units, or 13, or 4or 10.
It simply depended entirely on what we could build within the
residential multi family zoning,but by building enough within a
few blocks radius, we could effectively manage the portfolio
as if it was a monolithic building.

(04:19):
The opportunity really lies in overcoming the scarcity of land
and adding to the supply for those product types where there
is excess demand. Some areas are vastly
underserved with industrial product, for example, and we've
seen many cases nationwide wherecommunities have rezoned land
that was initially zoned industrial to make way for more
residential. And many of those communities,
there's a significant shortage. That barrier represents an

(04:42):
opportunity to fulfill demand while maintaining A barrier for
new entrants to come into the market behind you.
After all, warehouses don't vote, so it's more difficult to
get land zone for industrial uses.
And therein lies the word of theshortage.
So in that case, the bad news isthat it's difficult, and the
good news is that it's difficult.
As you think about that, have anawesome rest of your day.

(05:04):
Go make some great things happen.
We'll talk to you again tomorrow.