Typically, workforce housing is defined as the top of the bell curve of household income. So if if median household income is 100%, it might be 20% above that and 40% below that - essentially the top of the bell curve of where middle income, middle class workers reside, as well as some blue collar workers. And these are typically police officers, firefighters, teachers, health care workers, clerks, things like that. So, let's drill down a little bit - look at the city of Los Angeles, where we focus. Median household income there is about $65,000. So the workforce housing range of that of household income would be about $40,000 to just under $80,000. These people typically rent. They don't qualify for low income housing tax credits or vouchers or things like that. They're really the working class and middle class. Let's look at how they live in Los Angeles and the impact of LA's 50-year chronic shortage of housing. So housing in Los Angeles, because the housing stock here was built out really, right after World War II. Household formation has outpaced new supply here in recent years by a pace of four times to one. Job growth has outpaced new permits for multifamily housing by 5 to 1. And so it's no wonder that the median price for a single family home in LA is about $800,000 or ten times the upper end of that $40,000 - $80,000 range that I talked about. And so at today's interest rates - let's say interest rates come down to 5% and you put 20% down.

The occupancy cost, the all in, so your mortgage payments, your taxes and insurance, would take up 2/3 of your median household income, at the upper end, of that workforce housing range. So, said another way, single family homes in Los Angeles are just simply too expensive, to be workforce housing because there's too few of them. And so, there's no wonder that in LA, only 46% own homes here compared to a national average of about 60% - 65%. The numbers are stark. And what that has created in Los Angeles, over the last 30 plus years, is a permanent renter class. Two thirds of Angelenos rent their house rather than own their house. And most of them don't have a choice. They're not renters by choice. They're renters by necessity. So where do they live? These renters, by necessity. They rent in exactly the buildings that we target. These are typically older buildings. 92% of the rental housing stock, in Los Angeles, is over 20 years old. Most of it - over half predates 1970. And it was built at a time when land costs were much lower and the area was growing. So these were smaller buildings, typically two-story walk ups around a courtyard or a swimming pool. But they're smaller buildings. 85% of the rental housing stock in LA is 50 units or less. And those types of smaller projects that have very few if no amenities that are 30, 40, 50 years old. That's what a class B and a class C apartment is.

For Los Angeles was about $65,000, the median household income. We just bought three assets totaling 116 units in the city of Azusa, which is a very desirable workforce, middle class suburb of Los Angeles, just east of Pasadena and downtown Los Angeles. The median household income there is $65,000. So it's right squarely in the middle of the bell curve is where we are on that. It's just a good, desirable, middle class location to live. The interesting thing that sets workforce housing; these Class B, C apartments apart in Los Angeles compared to, really any other market in the US, and we're pretty well qualified to opine on this because about half of the deals that we've done, $800 million over 30 years, were outside of Southern California. What's unique about the class B, C assets in Southern California is how they behave in an economic downturn. And I think that that's a relevant discussion for where we are today in late 2022, with rising interest rates and a war going on and a 40-year high inflation and a lot of pressures on the economy. I would say the consensus is that, at some point in the next 12 months, we will be going through a recession. So how do these Class B, C assets in Los Angeles perform in a downturn.

In LA, the Class B, C apartment sector, that is the workforce house. The workforce can't afford to buy a home. They have become a permanent renter class and the place that they live is in these older, smaller Class B, C assets. So, what happens to these assets during a downturn? What our experience has been, and the data shows that as well, occupancy remains stable or actually increases as people move out of the class A, brand new product, into the Class B, C assets seeking affordability. Because the rents in Class B, C assets, in Los Angeles, tend to be about half of what the Class A market rents are during a normal economy. And so, our buildings remain full, if not increase in occupancy. Rents will dip. Nobody's bigger than the market, but they rebound very quickly. What we found in the last two major downturns, COVID and the global financial crisis, is rents dropped by about 10% in the B, C space in both of those cycles. Within a year of COVID, rents came back by overshot (a hockey stick) by 15%. So resumed the long-term trend line of 4% to 5% rent growth. Similar dynamic - took two years, right after the global financial crisis, but rents came back to pre-crisis levels within two years. They were exceeding pre-crisis levels. And so, you know, in short, in Los Angeles, there is a cycle resiliency to demand for this workforce housing, these Class B, C apartment buildings, that is unparalleled in other US markets and we've been active in every market from Phoenix to Atlanta.

And, there's really three factors. One is - this is the world's largest and most dynamic economy, one of the world's. Certainly one of the largest in the United States. A 50-year chronic shortage of affordable housing. It's created a huge permanent renter class that can't go anywhere else. We are the value proposition. We are the workforce housing for this renter by necessity. They tend to be a lot of blue collar workers, construction workers, teachers, firefighters, public service folks, retail service providers, folks who work in stores and retail outlets. They are the lifeblood of our service economy. They tend to be two income households. They tend to be families. And they are completely boxed out of a home ownership proposition here in Los Angeles. So they're attracted to LA because of the size and the dynamism of this economy. But, this is one of the least affordable places to live. And, unless you are willing to suffer a two-hour commute to be in Lancaster or Palmdale or the outskirts of Los Angeles, that's really the only place where there's a value proposition of owning a home that makes sense. But, at a huge cost personally and to families. And so, where most people want to reside, particularly if their families is as close to where the jobs are as possible, infill.

And, the only infill opportunity for housing, for this workforce, are Class B, C apartments that we focus. We do credit checks and reference checks and employment history checks and so forth on all of our tenants. So we do the standard profiling that you do whenever you're managing a property professionally. I think that we would just find that most of our tenants incomes fall squarely within that workforce housing bandwidth, for our submarkets. I think of affordable housing as dependent on some sort of government program or subsidy, beyond the natural subsidy that interest deductions provide homeowners. What we think of is, any kind of housing that relies on subsidies on the supply side for the development or subsidies on the renter side in terms of voucher or low income tax credits, housing tax credits and so forth, that's what we frame as affordable. We have a few Section 8 tenants, in our buildings, but they are of the rarity, not the norm. Where we strive to be is that lower middle class and middle class big swath of folks at the top of the bell curve. That are two income households and they can afford our rent. Where we try to always target, when we're underwriting new investment opportunity is, we want our market rents that we're intending to take our project to, to be within the reach of that target workforce housing tenant, that we're going after.

So we look at median household income, for the submarket that we're in, and we want to be no more than 40%. Our rents - 40% of that median household income. Which for Los Angeles, when the proposition is over two thirds, median household income to buy the median sales priced home, it's a huge savings. And we end up probably catering to the top of where the bell curve is and maybe just 20% towards the more affluent end of it. Because our are properties upgraded, they are still 30, 40, 50 year old buildings, but all the building systems are operational. It's being professionally managed. The units have been completely gutted and upgraded with modern amenities and stainless appliances and things like that. We add all kinds of common area amenities to the extent that the building envelope will allow it. Festival lighting and barbecue and seating areas and children play areas and improved pool facilities, fitness centers, things like that. Cities, I believe, mandated at the state level to have housing plans and certain state funds and federal funds depend upon a city's progress in implementing their housing plan, which includes affordable and workforce components. I haven't actually drilled down into the plans to see if there's consistency across the board on it. But I would imagine, particularly if it's federal funds, that it's pretty close where there would be some sort of standardization of it. HUD may have its own definitions for workforce housing and for affordable housing, which I would put as, below workforce housing.

I go off the Urban Land Institute definition of 60% to 120%. There may be grants and some of the stimulus dollars the federal government is providing to cities but there's always strings attached. So, one of those strings may be, what is your workforce housing plan? What is your progress on that? It may not be money that's directly going to benefit workforce housing, but it may benefit an infrastructure improvement that they want to make sure that those infrastructure improvements aren't going to the most affluent communities, they're going to areas where there's a strong workforce and an affordable housing element. You know, if you drive around - you've lived in Los Angeles and seen it, if you drive around here, you will see value-added opportunities everywhere. There are thousands of these tired, rundown properties where current rents are 30% or more below what their market potential is. There's no - this is astonishing to me. We have yet to buy an asset that has what's called a Ratio Utility Billing System or RUBS. It is the first thing you learn in institutional residential property management are things like, how you pass through utility cost exposure. RUBS is standard operating procedure for an institutional owner. We have yet to buy an asset that has RUBS in place. So, it's just another indication or evidence of shoddy, unsophisticated, disinterested management. RUBS is a very good self policing thing and it's astonishing in a market this big that we have never bought a property where the prior owner knew what RUBS was or put it in place.

It's one of the first things that we do, and it's one of the first things you learn in the apartment management business is how to pass through expenses, particularly utilities cost, which is one of the highest expenses in an inflationary environment. It's one of the the best ways to mitigate the impact of inflation on your operating expenses. The biggest expenses that we can incur here, or any property can incur, is utilities and property taxes. And through RUBS and Prop 13 - both of those are really shielded from inflationary effects for what we do here. And property management costs are also shielded because they are a function of revenue. So they only go up if our revenue goes up. And, the type of projects that we focus on, are able to take advantage of CPI increases rather than having more limited rent increases. So, we've had less negative inflationary impact on our properties. In fact, some of them have had inflationary impact. Go straight to the bottom line because we already had RUBS in place. Our tax basis was locked in and we have an upgraded asset demand for that in an environment like this has gone up.

Some of our institutional investors have mandates, partly because of their sourcing of institutional capital. Several public pension funds have mandated impact objectives into the deployment of their capital, whether it's workforce housing, whatever it might be. Today I had lunch with a prospective institutional investor who had three different impact objectives, all of which our strategy respond to: workforce housing, affordable housing relative to metrics compared to median household income and just discounts to class A space. So, there's at least three different metrics where they earn points in attracting their sources of institutional capital. So we indirectly benefit from some of the impact focus of what we do. Sometimes pricing will improve, particularly if we do agency financing on any of our properties, that's a little cumbersome. We like to lock in and fix interest rates and not be subject to interest rate risk, but we don't want to be paying yield maintenance and prepayment penalties on exit. And so, for that reason, haven't done much agency financing on our 3 to 5 year business plans. But even the commercial banks and other lenders who have been important partners in our business, the workforce component of what we do matters greatly to them.

LA is one of the largest and dynamic markets in the country, if not the world. I mean, the economy of LA County is about $750 billion, the last time I checked. If it were a stand-alone country, it would be the 19th largest in the world. And, it's one of the most populous with 10 million people. It's not going anywhere and that's what attracts people here is the size and the dynamism of the economy. The rental housing stock here was built out mostly after World War II. There's very little developable land left. And the typical apartment building is what I describe: it's a low density, two-story walk up with a courtyard or a pool. Vast majority of it was built before the 1970s. Almost 90% of it is 50 units or less. What is unique about this is that because of the smaller asset size that is the typical property profile of a rental apartment building in Los Angeles. It's really hard for institutional players like Paladin to amass a portfolio of scale that would attract significant amounts of institutional capital. If the average building size is 30 units here and the average building size is 300 units in Dallas, you have to buy ten times as many buildings here, as you do in Dallas in order to amass the same portfolio. So, that's what actually creates the opportunity for us. We're one of a handful of institutional- caliber firms that are focused on the Southern California market. Most of the ownership are smaller, what I call mom and pop investors. They're typically a family. Kids who have inherited a property that their parents bought. It's been in the family for decades.

They've paid off the mortgage and the kids have achieved a step up in basis after the parents pass away. And they're either running them like ATM machines, but they don't want to put a dime of investment into these properties. What they want to do is keep unit turnover, vacancy to an absolute minimum, because every time a unit vacates, you have to replace the carpets and sometimes the cabinets and put upwards of $10,000 into a unit turnover. So they want to keep rents low so nobody moves out. They don't want to put a dime into the building unless they absolutely have to repair that roof. They absolutely have to fix that leaky faucet. And so, what do you end up with? You end up with a lot of tired looking, fatigued properties, a ton of deferred maintenance and where market rents are up here and current rents are typically 30% below that. And that's where the opportunity is created for Paladin, because we, unlike most other multifamily apartment markets across the US, where the ownership of assets is mostly institution. And if it's institutionally owned, it's being run, it's being institutionally managed the way that we manage properties. So every property has RUBS in place, deferred maintenance is addressed, amenities have to be refreshed every five years. Not the case here, in the mom and pop dominated market of Los Angeles. And our thesis for what we do here, in a nutshell, is to to focus on these smaller, older, tired, poorly managed buildings with rents that are 20% to 30% below market.

We invest anywhere from $20,000 to $50,000 per unit, in exterior and interior upgrades to modernize the look of these buildings. And we apply professional management to optimize operations and increase cash flow. RUBS is one of the first things that we put in place, among many things that we put in place. And then we seek to harvest value, either through a sale or a refinancing, after renovations are complete. And that's usually within 3 to 5 years. So, while there are thousands of firms like Paladin, executing value-added apartment investment strategies nationwide, there are very few here in Los Angeles. And that's what we love about it, because it sets us apart as a buyer compared to everybody else in this market, except for just a handful of institutions that are focused on these smaller asset strategies like we are.

We've had a number of our institutional relationships approach us about doing something programmatically together because they see our track record both in Latin America and in LA, of scaling up small asset strategies like what we're doing in Los Angeles. We acquired, over the last 12 months, $80 million of properties, seven assets. And so, they see our ability to scale up and do this. More importantly, once we buy it, increase cash flow and add value. What we're trying to figure out is, do we want them? Having been on the institutional side of the desk, for 30 some odd years, there's there's pros and cons. And I think, if I were to describe the perfect investor, for our platform, it's more of a family office. It's an individual who is a national real estate investor. Maybe they've invested in some institutional funds like Blackstone and they've invested with some of the national multifamily players. But if they look at their portfolios, they'll see a hole in the workforce housing, the rental apartment business in Los Angeles because most institutions can't fill that hole.

There's a huge opportunity here and it's close to home. You know, we've invested in this strategy all across the US and we've seen how different markets perform. We've done it over 30 years. So we've been through plenty of cycles and we've seen just about everything that can go right and wrong. And there are just unique aspects to the Los Angeles market that you cannot replicate that ultimately provide a level of downside protection in Los Angeles that you cannot replicate in other markets. It is the fact that you're buying truly irreplaceable assets. You could not develop the low density two-story walk ups that we're buying if it were a vacant lot today. The land would be too expensive. The entitlement costs would be too expensive. You'd have to go four or five, six stories with subterranean parking and it would cost you $750,000 to $1,000,000 a unit. We're all in, at anywhere from 30% to 50% of that. So our cost advantage, relative to new construction, you cannot find that anywhere else in the United States. The typical discount to replacement cost is closer to 10% to 20%. So when a market goes down, in a place like Phoenix or Dallas or Atlanta, you're now at replacement cost. And instead of people moving out, you see flight to quality in a downturn. You see the A spaces start to fill up. Because, why would I pay the same rent for a B, C space when the A space is now priced comparable to what I was paying last year? Opposite here in LA. Class B rents are half of what Class A rents are. They're two completely different tenant profiles. Class A is renter by choice. More affluent people. The Class B, C is the workforce housing. There is no other housing alternative for them, other than moving in with your parents. When they understand the downside protection that's inherent in this permanent renter base, here in Los Angeles, just doesn't have any choice. They see the cycle resiliency of these Class B, C assets through downturns, and you overlay that with the upside potential of value creation in a 4 Cap rate market for every dollar of cash flow that you increase, your value goes up by 25 fold. And that 25 to 1 relationship is huge.

So, you don't have to lever-up assets like you have to in other markets - Phoenix, Dallas, Austin, Tennessee, in order to generate attractive value-added returns to investors, here in Los Angeles. The market does it for you. And when we enter a downturn, which I think we're likely to do, in the next 12 months, the performance of these assets, bar none, are superior to any other. It's evident in our track record. About half of the 90 some odd investments that we've made over the last 30 years in this space, about $800 million of total size and over 15,000 units, half of those were in Los Angeles, Greater Los Angeles, and they were among the best performing assets in the whole portfolio, for those reasons I just identified.

Aggregation play is a possible exit strategy that we've been considering but aren't locking ourselves into. It's one of the reasons why, if we bring a programmatic partner in, I always want to be able to have our club investors, which is how we describe our family office and high net worth investors. We want our club investors to be able to participate in everything we do. What I would not want is a situation where a programmatic equity partner wants us to hold an asset pursuing an aggregation play and there's definitely an opportunity. Between Blackstone's REIT and Starwood's REIT, and they're putting out billions of dollars a month, you will get a premium in terms of a 25 or more basis point discount in a cap rate for a stabilized portfolio over a one off asset, particularly in this market where it's nearly impossible for a Blackstone or a Starwood to gain a footprint. So there's definitely an aggregation play, but we need to make sure that that is something that our investor base buys into going in. And I wouldn't want the interest of one investor to seek an aggregation to influence the desires of another investor who would rather harvest that asset once we've added value. So it may end up being that we have a different - an aggregation play on one hand and we have an opportunity, if there's an aggregation strategy going on, that if any of the club investors wanted to depart, we could provide an exit alternative for them. And I think that if we laid that out upfront so investors knew that they had a choice to stay in on an aggregation strategy or to exit, at a at a certain point in time, I think that might be a way to be able to accommodate both groups together without any conflicts. We don't need to rely on a portfolio exit, by any means, and wouldn't, frankly, want to go into this strategy banking on a portfolio exit. But right now, there is a lot of capital looking for stabilized portfolios and there is a big hole in the portfolios of those large institutional buyers like Blackstone and Starwood and others in Los Angeles, a huge hole.

So, we could fill that. And regardless of what our investor base is, whether it's club investors or institutional or both, that is certainly an exit alternative. There's plenty of depth to the market here for stabilized assets, given their size. They're within reach of mom and pops who also want turnkey upgraded stabilized assets. All the deferred maintenance has been taken care of. All the RUBS is in place. The tenant phases have been optimized and there's plenty of demand in depth for those. I think that aggregating a portfolio to an institutional buyer is always an exit alternative that's available to us.

You need really good systems and partners in order to do this. You have to have a lot of experience in managing dozens and dozens of small assets. And so, whether it is financing, setting up the structures and the portals for investors and having good portals so that if an investor is in multiple deals, they can access our website portal and easily see how each of their positions are performing. Click on it, there's a quarterly report, whatever it is. I need the tax returns on these three investments that I'm in, to the asset management and the property managers that we use. The nice thing is, we have three or four different property managers that we use on a routine basis. We do not do the property management in-house. And the distinction between asset management and property management is important. The asset management is the job that Paladin does. You know, finding the opportunity, capitalizing it, closing it, and  responsibility for executing the business plan and all the decisions that go with it and ultimately harvesting it and managing the communications to investors. The property managers are in the trenches on the ground, collecting the rents, paying the bills, executing the business plan that we, the asset manager, put together. We have a couple that are just phenomenal. They have over 10,000 units, mostly in Southern California under management. The vast majority of that are these smaller 20 to 50 unit, types of buildings. So, they have built up systems and procedures and infrastructure to be able to accommodate this. But it is a management intensive business, very management intensive. And without those systems in place, the average investor would be lost. Again, that's who we're buying from. We're buying from folks, that if they own more than one property, it's even more harrowing than owning just one property, and try to figure out how to navigate things like rent control, which is a topic for a future discussion. But I mean, there's so many pressures on them that we're used to. We've been doing this for 30 years across dozens and dozens of assets.