Transcript

Aaron:

Hello and welcome everybody. I’m joined by the one and only Jonathan Pratt, who’s currently a Senior Vice President at Capital One and he’s the co-head of a nationwide origination team that closed over $3 billion in commercial financing over the last few years, financing all major asset classes. He has a special way of looking at deals. Coming from a real estate family, he thinks like an owner and in 2022, he won the Globe Street rainmakers award–very exciting. And also, you’d be hard-pressed to find somebody more passionate and knowledgeable about how big data and underwriting and lending and deal-making all coalesce.

So Jon, really, thank you for being on and taking the time; we’re excited to have you here.

Jonathan:

Yeah, absolutely. Thanks for having me. I’m really excited to be here.

Aaron:

Maybe you can start off by giving your background, how you got started in the business, and where you grew up; that type of thing.

Jonathan:

So, yeah, I currently live in Salt Lake City. I’m married with three young kids, so, you know, we’re in the fog of war with children–we have three kids under the age of seven. I grew up in Washington, DC, like you said, we were a commercial real estate family in DC. I went to BYU out in Salt Lake City for undergrad. It took me six years to graduate because I skied way too much. But after I left college, I started my career in development, and did about three years in development. And in those years, I worked on about two deals and I realized I didn’t have nearly enough deal flow. So I moved on to the debt side, the more transactional side, and started my career in underwriting, and then moved on to production, started with Capital One, went to a shop called Berkadia, and then have recently returned to Capital One and am really excited to be back.

Aaron:

Yeah, it’s really cool. And your career has been on a fast track, and you’ve got some really deeply-loyal clients that you’re really servicing at a high level–I know because I met some of them. Maybe talk about how you started to think about some of the data and technology and platform-building in your career to date and how it’s been an impetus for some of your growth.

Jonathan:

So it’s interesting, I’ve found that throughout my career commercial real estate really hasn’t kept up with the same kind of technological innovation that we’ve seen in other industries, and that’s always been pretty puzzling to me. I’ve got a brother-in-law who’s in venture capital, and just hearing about the deals and the innovation that they’re doing on that side it just sort of always made me question why things were different in commercial real estate. The developer that I worked for straight out of college was a pretty institutional shop, but they were still looking at data in a pretty rudimentary way. You know, there’s a number of reasons for that. That’s because when I started back in 2011, there wasn’t high-quality data broadly available, but even sort of these institutional shops don’t really look at me. And, my former shop, you know, they had a data science team that was working on it. And, you know, once I found that there were people within the industry that were trying to solve this problem, I jumped in, and I was really excited to see how we could help solve the problem. And I just think that there’s just so much growth opportunity of what we can do to better understand markets and better allocate capital in high-growth areas or find opportunities through data. And that’s what I’m really passionate and excited about. I think some of the largest institutional firms in the world are just starting to get their hands around it. But what I really want to do is sort of bring that type of data literacy and technological innovation, really to the middle market clients who can’t afford to have giant data science teams, you know, but those groups are a little bit more nimble, a little more opportunistic. And that’s where I think data and deal-making can coalesce and people can do things that are pretty special.

Aaron:

Sure. And obviously you’re a huge shop with tremendous access to information and you have to be subtle and nuanced about how you leverage what piece of information to whom, and “fiduciary” is all over the place. But maybe you can give some broad-based examples about how you’re thinking of data, what pieces of data, [and] how data could be leveraged today in a way that somebody is not thinking about it creatively; or perhaps a lot of misnomers, you know, people look at just population growth or they look at credit card statements. You have a lot of thoughts on the topic. I’d love to pull some of that out of you.

Jonathan:

Yeah, so I have a ton of thoughts. I’m going to try to streamline it and make it linear because it’s…there’s a lot of circular references in the data world. First, I will say that there is a large misconception that once you compile large amounts of data, that it becomes this really clear picture. That it’s just, everything’s laid out in front of you and a program will just tell you, “Hey, go invest in X.” That’s not going to happen. You know, data gives you a picture through muted glass, and you have to figure out how to draw the lines between them. I think where real opportunities lie today—and there’s a bunch of shops that are attempting to do this, primarily I’m seeing through the brokerage shops, where they are trying to compile every possible, publicly-available data point and then put them into one system so that you can see all the information laid out in front of you, and you can start to draw those conclusions and find those actionable insights.

What I think really the next step of it is, is doing that, but then adding proprietary data on top of it. There’s a couple of different ways that I’ve used the data and it’s really to do more deals. I have clients who are looking at specific deals and they’ll come to me and they say, “Hey, what do you think about this from a data perspective?” And I will go look at it and I’ll look at all of the data points that are important to me. And I’ll say, “Hey, listen, based on sort of the way I view the world and your population growth, I think the new supply is going to be a real issue. I think that you need to watch where business growth, both in white-collar business growth and blue-collar business growth are going to go.” And I will evaluate the deal sort of based on those parameters and then give them to my client. And honestly, a lot of the time that data just goes straight into their investment committee memos. But I think the next iteration of this business and the strategy that I like to use a lot is, I’ll sit down and I look at sort of a global dataset of everything that’s going on in the country. And I say, okay, “if I were a value-add multifamily investor, what am I trying to solve for and what data points are relevant to me for that equity strategy?” And so I will look at Class A units per capita of residents that make less than 80% of AMI, because you can’t build new Class A units. And then I’ll put on top of that, what’s going on with blue collar job growth, because that’s usually who’s coming in to occupy those B and C units.

So for a value-add investor, I’m trying to figure out how to incrementally de-risk my value-add. So if I do my renovation and I don’t get the premiums that I was hoping for, is market rent growth going to bail me out or are the natural market forces going to incrementally de-risk what’s going on? The same thing I do in a Class A. If you’re a Class A multi-family investor, you have very different goals than a value-add investor. Usually, you know, I have a lot of family office clients, and they just want to find good, stable cashflow where they can find incrementally outperforming yield. And they’re more worried about preservation of capital than highest-yielding returns. I’ll go across the country. And I say, okay, “what markets best lend themselves to buying Class A where you can still find yield?” And then I take those strategies to my clients and say, “Hey, listen, I know you’re solving for an X return, and I think these are the markets you should be looking at, these are the reasons, these are three deals that are currently on the market in those markets, and here’s the equity analysis on them.” So, it really goes from an inbound strategy of a client calling me saying, “I have a deal” to an outbound strategy of me saying, “Hey, I have an idea. I have an equity strategy you can capitalize on. Here’s the strategy, and here are the deals you can go in on.”

Aaron:

That’s really well articulated. That’s very unique in the brokerage community. I mean, typically the brokers get the call saying “I have a deal, get me the financing” or “I want to put in an offer, here’s a bid process, et cetera, et cetera.” We know what brokers are supposed to do, and they do a great job doing just that. But do you think the firms that will separate themselves doing, as you’re doing, sort of leading and guiding the transaction from the opportunity back into what the client doesn’t even know they want. Do you think that’s going to separate the future of brokerage, whether it’s in finance or just typical, typical property listings? Or do you think the clients are there and we’ll have to just continue to solve? But clearly if you can open up that information, you’re differentiating yourself at a high level.

Jonathan:

I do think that that is how brokers are going to set themselves apart in the future. I think this is going to be a 15-year trend, but I think we’re going to see far fewer brokers in the future, and it’s the brokers that can embrace technology and sort of come up with these data driven strategies and these equity strategies in the debt space. Those are the ones that are really going to thrive. I look at it sort of as analogous to the private wealth management industry. So in the nineties, we had stock brokers who literally their job was to execute a trade. E-Trade comes along, Schwab comes along, all of these online trading platforms come along. The stockbrokers didn’t go out of business. They just pivoted their business to become private wealth managers. And so now they’re not getting paid for the transaction, they’re getting paid for the idea. You know what I mean? And I think that same thing is going to happen in our space.

Aaron:

Talk about also, there’s so many data points and obviously job growth and all the obvious ones, but what are some of the more nuanced pieces of data that—not  to give any trade secrets away—but what are some cool things you think about, which maybe some other folks may not be thinking about?

Jonathan:

I think that sort of what leads our team to be leading in this space is not only just cool data points that we look at, but really looking at how data points interact with each other. This is going to sound super basic; I know everybody sees it, but watching what happens when new supply in a market goes over 7% and then watching historically what happens to rent growth for the three years after that. And so, sort of understanding the macroeconomic forces going on and how we can look at sort of what’s happened in the past and try our best to predict what’s going to happen in the future. But for some sort of more nuanced data points, two things that I really like to look at are gross renter wallet share; so the amount of renters paycheck that goes to their rent, and then I love to look at the spread between Class A units and Class B units, and then Class B units and Class C. And that’s really important because, you know, if you have a property or a market where the Class A rents are only $150 per unit above where the Class B rents are, most renters are going to say, “Hey, it’s only $150 bucks a month. I’m going to go up and get a higher quality asset.” And so it limits the amount to which those Class B properties can increase their rents even if they are doing renovations and upgrading. I don’t care how many kitchen countertops you switch out, you’re not going to beat an amenity package from a new Class A building.

And so there needs to be a significant spread, and a lot of people don’t pay attention to that. They just say, “Oh, well, we’ll put it in, we’ll raise them 150 bucks,” And they’re only looking at their Class B comps. They’re not looking at the dynamics of the Class A market. And then there are some extremely cost burden[ed] markets in, you know, like New York City, LA, San Francisco, but we’re seeing the percentage of a renter’s paycheck, which goes to rent increase in these tertiary and secondary markets that have typically been lower cost-of-living markets. But the fact of the matter is, is it doesn’t matter if 50% of your paycheck is going to rent in San Francisco or 50% of your paycheck is going to rent in Salt Lake City. There is a level to which, especially in these secondary markets, that they can’t justify charging such high rents relative to what the average median income is. And so that’s another thing that most people aren’t paying attention to that we pay very, very close attention to.

Aaron:

Next question for you: You’re really on the bleeding edge of a lot of data, proprietary data and general market data, which you’re sifting and sorting through. Do you have any prognostications about sort of where we are, either cycle level or asset class level? You’re obviously watching multifamily carefully. I mean, how much longer can this continue? What does the next six or 12 months look like? Do you see any problems on the horizon?

Jonathan:

So I am a pessimist at heart. I do have some fears in the market, particularly in the acquisition space. I did have those same fears two years ago, but, you know, I’ve been proved to be wrong. But, two years ago people were underwriting big growth. Let’s take a market like Phoenix; people were underwriting 10 percent rent growth there, which has happened. But at that point in time, we had interest rates that were around three percent and we had cap rates around four and a half to four percent. So on an amortizing basis, we didn’t have any negative leverage in the market. On an IO basis, you were all good. But once that IO strip ran out, you were in negative leverage territory if that natural market rent growth didn’t come to fruition.

We’re doing the same thing right now. People are underwriting nine and 10 percent rent growth in Phoenix, and I hope that that can continue. But the difference is, people are buying stuff at 3 percent cap rates and they’re borrowing at three and a half percent. And so even on an IO basis, we’re in negative leverage territory, but everybody’s betting that the market rent growth is going to bail them out. And I really hope that that happens. I’m not hoping for anything, or anybody to lose money or a demise in the industry, but I just personally, from where I’m sitting, I don’t know how that’s sustainable, and I feel like people are a little bit out over their skis in terms of market fundamentals.

There’s a lot of 1031 money that’s driving sort of these decisions where your returns are really low. I mean, I talked to a client yesterday, that’s looking at a deal with a 7 percent IRR, but they’re like, “Hey, listen, it’s barely more lucrative than paying the taxes. And so, you know, we have to take it.” And there’s just so much capital in the market driving those cap rates down and down and down. And then meanwhile, we have that upward pressure on rates from the Fed. And so I don’t quite know how we land the plane on this market, but I hope we figure it out.

Aaron:

Yeah, I hope so too. Something will have to happen. What goes up must come down. Right? We’ve seen that before? 

Jonathan:

Yeah, or at least steadily grows…  

Aaron:

Exactly. Exactly. And hopefully it’ll be as painless as possible if anything should happen. But let me ask another question. I think, if I remember correctly, you’re also speaking at Georgetown University, and you speak to a lot of younger folks in the industry, you’re talking on tech, you’re involved in some mentorships…What are you telling these graduates today? You know, looking to you for advice about getting into the business where they should go, where should they start their career? You know, how should they map it out?

Jonathan:

I don’t know if I’m the right person to be telling people this, but I offer my advice wherever I can. We’re a really young team. I just turned 34 years old. I’m the oldest person on our team and we have a team of seven. And so we’re a really young team and we engage in mentoring a lot. I taught a class at Brigham Young University last night, and the advice that I typically give to people is just become a master of the details. People, especially early in their careers, and especially people who want to get into origination, I find a lot of people that are getting into this business because they like client-facing roles. They want to be out, they want to be entertaining, and that’s all well and good. But I think in the early part of your career, you need to just focus on the details, learn the fundamentals inside and out. And then, you know, the other thing for career development that I always say is just find your people, find the mentors that believe in you that are willing to support you. Find those friends in the industry that are your peers and confidants and stick close to your people in the industry. So, I mean, it’s master the fundamentals and build really solid, important relationships.

Aaron:

And what about the mental aspect of your career? You obviously get a lot done, and I’m sure like everyone else have a lot of day-to-day stress. How are you sort of just dealing with it? I mean, you’ve got a lot of clients looking to you, you’ve got a team, you’ve got a major platform, you’ve got a lot of energy, that’s for sure, and a lot of data. But you still have to juggle a ton. So how are you sort of like powering through that edge in your day-to-day life?

Jonathan:

Well, ADHD helps…so that I don’t get tired….

Aaron:

Haha. Spoken like a true dealmaker.

Jonathan:

Yeah, exactly. No, you know, I’ll be honest. That’s been an evolving part of my career. When I started in my originations career, I was on my own. My first year, I only did $5 million in deals. My second year I did $250 [million], but I was just like white-knuckling it the whole time. I brought on a partner. You know, she took a huge load off and, and we just have kept growing our team in terms of scale. We went from $250 million to $600 million to a billion dollars. And then last year, in 2021, we switched shops halfway through the year. For the whole year, we did $1.2 billion. So that was a big year for us. And so, you know, I have amazing people around me; that is honestly the biggest thing.

I have a team that is incredibly supportive. That helps me out a lot. I have amazing friends in this industry that are incredibly supportive and help me, but in terms of just like managing stress and like getting a handle on my day-to-day, you know, I hired my first dedicated admin this year. And she has just like changed my entire life in terms of dealing with stress. She had a background where she was the executive assistant to a tech CEO here in Utah. And she brought a ton of practices and methods from the tech world that are apparently commonplace there to help me manage stress. So she brought in the concept of an accountability partner where she’s like, “listen, you just need to tell whoever you’re working with what you need to get done today, not what they need to do for you, but what you need to do and have them hold you accountable to completing those things.” And, it’s just little simple stuff like that, that has been hugely effective.

Aaron:

I love that idea of an accountability partner, because talking to yourself will only get you so far, right?

Jonathan:

Hah, exactly.

Aaron:

Last question. Who’s your perfect borrower and why?

Jonathan:

You know, I love the big clients that we have. You know, we do deals with Federal Capital Partners and Bridge Investment Group and things like that. But what we really love to do is sort of taking an institutional mindset that we have from our exposure to those institutions and really bring them to the middle markets, to the clients that sort of don’t have that exposure and those sizes of teams, and we want to lend the size of our team to some of these smaller borrowers who are just trying to get started or who have a great business and are trying to grow. That’s where we really come in and, and we’re able to drive the most value for our clients. So that’s our, that’s our prime-time client right there.

Aaron:

It’s been a tremendous conversation. You’re certainly somebody that people should be getting to know better in this industry. And you’ve got an amazing career behind you and ahead of you too. So, thank you again for joining. It’s been great and I look forward to continuing the conversation real soon.

Jonathan:

Thanks for having me.