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The PROs & CONS of Short-Term Rentals

Short-Term Rentals
June 2019

Entrepreneurs are putting a new spin on the short-term-stay model: They want to rent your apartments and boost your lease-up.

Like many apartment firms, Houston-based Camden attempts to keep tabs on innovations that could affect the company and the apartment sector. So, when the founders of short-term-stay provider Lyric, Joe Fraiman and Andrew Kitchell, reached out to Kristy Simonette, Camden’s Senior Vice President of Strategic Services and Chief Information Officer. She took the duo to meet Laurie Baker, Camden’s Senior Vice President of Fund and Asset Management, and check out Lyric’s short-term rental properties.

At first, Baker was skeptical, because she associated Lyric’s product with corporate housing firms, which for years have rented apartments.

“We’re not the biggest fans of corporate housing at our communities, due to the possibility of the units being returned in December,” Baker says.

Baker’s opinion changed once she toured Lyric’s rental apartments in Dallas.

“We were impressed,” she says. “They were large, with best-in-class amenities, fully stocked kitchens and in-unit washers and dryers. It was a complete hospitality experience. We walked away saying, ‘This is the new face of corporate housing.’”

Camden let Lyric sublet 10 apartments in its Camden Travis Street community in Houston after the short-term provider initially asked for that many apartments on the same floor.

“This allowed us to dip our toe and evaluate how it would work,” Baker says. “So far, considering this small sample size, it’s gone well.”

During lease-ups, short-term providers can bring apartment communities a substantial occupancy boost, an additional amenity for existing residents and a testing ground for new technology, such as noise meters. But they also leave some apartment executives wondering whether these operators could harm their brands—and their residents’ quality of life.

A Lease-Up Boost

For a large developer such as Camden, the advantages of renting apartments to a short-term provider during lease-up are obvious. While it may take eight to 24 months to fill an apartment after construction is complete, the short-term provider injects immediate occupancy and revenue.

“It helps developers receive extra money while reducing the risk of absorption,” says Jason Fudin, CEO and Founder of WhyHotel, which bills itself as a luxury pop-up hotel. “We’re taking 100-plus units on multiple floors at opening. As the building fills, we wind down our footprint.”

During a three-year lease-up period, filling as many apartments as possible at the outset makes a big difference.

“We can lease entire floors and drastically shorten that time frame, allowing the owner of the building to make more money and better use of the property,” says Mason Harrison, Director of Communications for Sonder, another company that leases apartments and rents them for short-term stays.

Some developers aren’t as willing to offer multiple floors, much less an entire building. James R. Borders, President of the Novare Group, for instance, likes to limit short-term providers to one floor because residents can only access the floor on which they live on.

Charlie Kuntz, Managing Director and Innovation Officer for Houston-based developer Hines, agrees. “If we can consolidate that operation to a single floor, we find it works better for [the providers], us and the residents,” he says. “This way, residents on other floors don’t feel the transient nature of the short-term stay.”

In addition to limiting the location of pop-up apartments, apartment owners and developers want flexibility in the leasing arrangements. This makes sense, because developers say they don’t want a lot of inventory hitting the market at once.

“Our agreements with these short-term providers state that we can take back those units if we want to,” says Lisa Newton, Senior Vice President of Multifamily Operations at Hines.

Borders has had experience with corporate housing providers that break leases. He says it’s important to place stipulations on the partnership, specifically regarding lease expiration.

“They can’t eliminate their leases all at once,” he says. “Generally, the leases tend to be for one year, because that’s what’s required based on most loan documents.”

Flexible leasing arrangements also enable operators to take back apartments if the market starts to heat up. Hines gives its short-term hotels and corporate providers staggered lease expirations. Novare Group builds flexibility into its leases.

“If there are problems, we can say, ‘That’s the end of the lease,’ ” Borders says.

Hospitality as Conversion Funnel and Amenity

Most short-term-stay providers focus on putting their own stamp on their apartments by changing out the lights, wallpaper and other furnishings. Once they leave, they must restore the apartment to its original state. For Camden, these furnishings, even if placed temporarily, provide opportunities for new leases.

“We don’t have models anymore,” Baker says. “If somebody wants to see one of the units, [the provider lets] us have access to them to show and to photograph.”

Short-stay apartments can also persuade guests to live in the community for a longer period.

“It’s a conversion funnel,” says Lyric’s Kitchell. “In many cases, guests stay with us for two weeks and then become long-term residents of that building.”

When a short-term hotel firm first came into a building that Bozzuto Management Co. operates in downtown Washington, D.C., Khushbu Sikaria, Bozzuto’s Vice President, Innovation and Product Development, says business consultants ended up in many of the short-term apartments. Sometimes they decide to stay.

“There was one guest, in particular, that ended up leasing at the property because it was more financially efficient to sign a 12-month lease than pay a daily rate,” she says. “A key for success in this model is absolute collaboration and open communication between the apartment manager and short-term rental operator. Additional leasing activity then becomes a welcomed byproduct.”

Short-term apartments also can potentially serve as an amenity for long-term residents. An existing apartment resident in any building occupied by provider Locale, for example, gets a 20 percent discount on short-stay units.

“Obviously there are some blackout dates, but we’ve had a lot of residents take us up on that offer and book our apartments for their friends and family coming to town,” says Locale’s Founder, Nitesh Gandhi. “That’s been a strong program element that can help increase resident satisfaction.”

Camden negotiated a resident and employee discount on the Lyric apartments at its Camden Travis Street community. “This is a resident amenity for us because [the resident] can use it when someone in their family, for example, visits for a weekend stay,” Baker says. “If one of our associates is traveling to Houston, they can also rent the Lyric apartments.”

Providers also can hold social events to help educate residents about what’s happening on the floor they rent out. “We throw launch events for the entire building [when Lyric units are introduced],” Kitchell says. “We want to know what’s happening in our apartments.”

Not surprising, some apartment firms are also using short-stay companies as a testing ground for the next generation of amenities, because whether it’s access control, smart-home features or noise-monitoring systems, short-term-rental providers have been at the forefront of technology adoption.

“Traditional apartment operators get to watch and learn and see what technology is being used by [short-term-stay providers] to decide if they want to [add it to] their assets for residents,” Hines’ Kuntz says.

Newton says she’s intrigued by short-term providers’ use of decibel meters to monitor inappropriate noise levels, for example.

Vacation-rental manager Vacasa’s multifamily housing offering can provide retrofits and other upgrades to make the older communities that it operates more attractive.

“One community had challenges with [security] for its long-term residents because the keys didn’t work well,” says Joshua Viner, Senior Manager of Vacasa Multifamily. “We were able to come in and provide them with an updated entry system, which benefits us because it allows our guests to get into the buildings more easily.”

Stay Alfred has incorporated what it describes as “smart callbacks,” an Alexa-enabled feature, at its Nashville 505 property in Nashville, Tenn. Essentially, visitors can use the in-unit Alexa to “Ask Alfred” about the property, local recommendations and more. “It’s a little bit gimmicky right now, but everything is going toward the voice in the future,” says the provider’s Founder, Jordan Allen. “There are some really cool things we can do with it. We’re getting decent usage.”

The Downside to Short-Term

While leasing apartments to short-term-stay companies can provide additional amenities and extra revenue, these arrangements don’t come without risk.

Having had some bad experiences with corporate housing providers, Vanessa Siebern, Vice President, FPI Management, cautions apartment operators to be wary of the companies it partners with, especially when it comes to credit screening.

“People should be aware that many who rent in short-term communities are often those who carry bad credit or who don’t have a large credit history,” Siebern says.

Many short-term operators emphasize their background-check processes. For instance, Allen says Stay Alfred screens through a two-step process. The first step is a public record screening. Any reservation with questionable or unclear results is next run through Stay Alfred’s screening process.

Wood Partners has had mixed success with short-term rentals. At a community in Portland, Ore., Managing Director Steve Hallsey says residents complained about unfamiliar people in the hallways, loud parties and the amenity spaces being monopolized.

“It was a huge disaster for us,” he says. “We almost had a revolt with our existing residents. We had to move it out of the building.”

Short-term rentals at Wood Partners’ Alta Alchemy, a mid-rise building in San Francisco, operated more smoothly when it used a short-term-stay provider.

“The experience was great because we could spread the guests across the property more efficiently; it wasn’t as obvious that non-residents were living in the building,” Hallsey says. “It works better in a mid-rise garden than in a high-rise, because people aren’t in the elevator and seeing strange people come in and out.”

Despite the good experience in San Francisco, Wood decided to shelve its short-term-stay program.

“We’re not doing it anymore because of the resident disruption,” Hallsey says. “It impacts the value of your property. Our experience is that [apartment] buyers have come in and discounted [in the underwriting process] those short-term residents even though they sign a one-year contract when they underwrite a community.”

Chris Herndon, Co-Founder of short-term rental and hotel operator The Guild, hears these concerns. “It’s a huge issue,” he says. “As I like to say, ‘The bachelor party is a substantial risk to this business.’ ”

But Herndon contends that his guests “behave” better than a community’s regular residents. “We advertise on channels with price points that attract business travelers or folks with a little bit more of a budget,” he says.

Like other short-term providers, Vacasa’s Viner emphasizes that his firm utilizes noise-monitoring technology in apartments it manages and employs staff to handle other potential hot-button issues.

“Probably the biggest thing are buildings that have had operators that have previously attempted to manage short-term rentals that left a bad taste in the management company’s mouth,” Viner says.

As do many providers, Kitchell emphasizes that Lyric’s goal is to promote a calm and safe living environment for all involved.

“This isn’t about backpackers and bachelor parties,” he says. “This is about business travelers coming into your communities.”

Regulatory Hurdles

As a top national developer, Hines works to nurture its relationships with government officials in the cities where it builds.

“All of our buildings have local teams working on development projects and looking at acquisitions,” Kuntz says. “They have a good grip on what the regulations are, and they don’t want to run into any regulatory issues.”

Such issues could potentially create a problem with short-term rentals, which have been a target in many cities nationwide. Municipalities often take note of companies that remove apartments from their housing stock and convert them into hotels or short-term rentals, making housing less affordable.

Developers that lease apartments through a short-term provider and that want to nurture local relationships could come under fire. Kuntz doesn’t want to run that risk. Neither does Novare Group’s Borders.

“We want to make sure we’re in compliance with local rules and regulations,” Borders says. “[Short-term providers] research that, and they pay to the extent that taxes are owed.”

In their agreements with Hines, Newton says short-term providers are contractually obligated to know and follow local rules and regulations. “They know they’ll have to have all their permits in place to be an operator,” she says.

WhyHotel’s Fudin says questions about compliance are the queries he fields most often. In response, he succinctly tells inquirers, “We secure the regulatory approvals.”

Herndon says The Guild partners only on buildings where hotels are permitted. “Sometimes, there are modifications we need to do on the floors on which we operate so that we can get a hotel certificate of use,” he says.

Many pop-up hotel providers have developed relationships at the municipal level and handle getting the proper permits for their units themselves. “It’s critical for us to be regulatory compliant,” says Locale’s Gandhi, echoing the sentiment of many of his competitors. “We collect and remit our hotel occupancy taxes just like a hotel would, on a monthly and quarterly basis.”

If a city has a positive experience with a pop-up hotel operator, Sonder’s Harrison thinks it will be more likely to work with that company through approvals. “Because we’ve worked with developers to restore blighted neighborhoods and give cities more occupancy during high seasons when they’d have otherwise left revenue on the table, we’ve gained their confidence,” he says.

Lyric has worked with local governments in Austin, Texas; Nashville; and Chicago to gain space permits.

“We talk to city councils, and we hire local lawyers and real estate experts to make sure we’re legally compliant,” Kitchell says.

The Future

While concerns remain about regulatory issues, rowdy neighbors and inadequate background checks, the pop-up hotel asset class seems to be here to stay. The list of short-term-rental management providers continues to grow, and many multifamily housing executives are curious about how the niche sector will evolve.

“The model hasn’t been tested to a point where you can actually say it’s a great idea or it’s not,” says Diane Batayeh, CEO of Village Green. “We’re engaged with these companies [though] and are interested in how this model plays out.”

Others see a lot of potential in the arrangement. “These types of companies are popping up everywhere, and it’s definitely something that everybody needs to research and embrace, because it’s the wave of the future,” FPI’s Siebern says. “I’m very optimistic and open to using them.”

As some apartment executives weigh the pros and cons of working with short-term providers, others wonder what’s next for the business.

“We’re not seeing anything that suggests there’s a problem with demand for short-term rental apartments,” Kuntz says.

But what if new supply tapers off and there aren’t as many lease-ups to occupy?

Fudin says he’s not concerned about a tail-off in starts. “We don’t need that much inventory,” he says. “On average, 200,000 apartments deliver per year. Even if the number of units being delivered is less than average, there still will be hundreds and thousands of new available units.”

Having a thousand units in every urban market that could support them isn’t Vacasa’s goal, Viner says. “We’re trying to offer hotel-type amenities in urban cores,” he says. “We’d be happy to operate 50, 60 or maybe 70 units in a city.”

Allen, who wants to take Stay Alfred to 25,000 units and a couple billion dollars a year in revenue, sees a downturn as an opportunity.

“As the real estate cycle starts to soften, we can offer a unique way to get a community leased up 10 times faster than [traditional methods would allow],” he says.

Herndon agrees. “I think real estate is becoming more fungible,” he says. “When market conditions are more favorable to have a hospitality versus a multifamily use at a particular piece of property, the real estate owner will be able to switch gears.”

With many short-term providers getting venture capital funding, there’s also the question of who survives and who gets bought (or goes out of business).

“Some people will go out of business and people will be acquired,” Herndon says. “I think the most sophisticated operators, from both a technology and an operations perspective, are going to garner favor with the most sophisticated [operators].”

Gandhi, who came from the hotel world, sees the short-term-rental sector following a similar trajectory.

“I think the best analogue is when you look at the hotel industry,” Gandhi says. “It’s not a winner-takes-all market. There are quite a few global hotel brands, and there are a lot of smaller boutique operators. I think there may be four or five [short-term-rental] companies that will become well-known brands, and you’ll start to see some differentiation as far as experience, service and product quality. Apartment owners, operators and developers will want to work with groups that have a track record and are leasing a meaningful level of inventory—often full floors.”

But what about the others? “A lot of smaller operators likely will either get acquired or find it more difficult to lease inventory,” Gandhi says. “There might be some consolidation just to hit [unit] targets, but I suspect that a handful of companies will continue to help create this new class of accommodations that’s unique from the typical hotel or vacation rental.”

Click here to read the first part of the series: Disruptors in the Short-Term Rental Space.