Micro Units Adopt Cult Following

SEATTLE—Where is it possible to find an apartment in a new building for $1,000 in the Puget Sound? The city council or a traditional investment committee would answer “nowhere”.

But with some outside the box or rather inside a smaller box thinking, the answer is the nearly 11,000 micro apartments planned and built across the region from Tacoma to Redmond since 2009. Four years ago, when Dylan Simon and Jerrid Anderson of Colliers International’s Seattle multifamily team initially endeavored to be the first efficiency-unit experts in the nation, they ignored the pundits questioning this new wave of small apartments.

But what they did not anticipate was the amount of success this affordable product would have in both bull and bear markets, and the amount of attention the product type would receive from private investors and large institutions alike. As a result, the team built a cult following of 200 efficiency-apartment owners, designers, managers and developers. And the pool of people interested in small units has grown to where micros are the biggest little thing to happen to apartment investments since tenant amenities.

“The zoning allows for a variety of this unit type. Many markets have minimum size limits and Seattle, like all major metros, has affordability issues,” Anderson tells GlobeSt.com. “Tenants looking for something affordable can now decide whether they would like to trade time commuting for living space, and many choose a smaller space in a great neighborhood so they can be near work and all that they enjoy doing. The micro apartments as we know them were ‘invented’ in Seattle in 2009 so it is natural there is a healthy supply compared to other markets.”

There are several key takeaways from the second-annual efficiency unit study, which reports on key metrics for micro studios and small efficiency dwelling units in Seattle’s urban core.

Efficiency units are going mainstream. Today, efficiency units are no longer relegated to congregate buildings but are crucial ingredients in many market-rate developments. Of the 4,699 efficiency units in the development pipeline, 1,001 units are part of traditional apartment developments that include standard studio, one- and two-bedroom units.

Since 2009, even through the Great Recession, average rental rates for micro apartments have had 80% cumulative rent growth and sustained 6.7% year-over-year rental-rate growth. Micros are expected to continue growing rents 40% to 50% faster than market-rate studios. When introduced to the market in 2009, average rental rates for micro apartments were $558/month. Fast forward nine years and average micro apartment rental rates hover around $1,000/month.

Investor demand is compressing cap rates. Since the Seattle multifamily team launched the first micro apartment sale in the market three years ago, investor demand has reduced the cap rate spread by nearly 50 basis points for micros, while small efficiency dwelling unit/SEDU sales compressed cap rates within 30 basis points of market-rate apartment sales. Further compression is likely as more investors realize that these small units generate 35% more income per square foot than standard market-rate apartments.

While market-rate apartment absorption is weakening, SEDU and micro absorption remain strong. Urban King market-rate apartment supply grew by 6.9% (8,035 units) last year while vacancy in core markets pushes above 5%. As the most affordable options in the city, micro and SEDU apartment supply has not yet satisfied demand despite a 10% increase in stock thus far in 2018.

Until the Colliers team’s first efficiency unit study in 2017, no data source in the market tracked rent, vacancy, sales or development specific to these small units.

“The reason that data collection and dissemination are so important is to educate the buyer community,” Anderson explained. “Market-rate apartments as we know them have been around for 190 years. Investors have had a long time to understand how they operate and what they can expect when they own one. Most of the buyers of micros and SEDUs have never developed or owned them before, and the lack of information makes it challenging for them to be as aggressive as they would be when offering on a standard apartment building.”