March 12, 2013 by Dymphna 14 Comments

Boomtown Investor Challenges

Boomtown Investor Challenges

Where is the next place for growth that makes sense for investment? Which mining town will be the next one to experience exponential growth and give us a great opportunity to make some fantastic profits? They are out there; but that said, there are some traps and trouble spots that you need to be aware of.

We’ve all seen the sleepy little mining towns suddenly explode into massive boomtowns in a matter of weeks and months as a new discovery is made or prices on the world market have suddenly become very favorable. But at the same time, as the fluctuating commodity markets have shown us over the past few years, changes in world market prices can also lead to a town collapsing even faster than it boomed!

The key is to know what to expect when a town begins to grow, how to know that a town is on the verge of exploding, and how to manage the obstacles that you will surely run into along the way.

Economics rule the world

Whatever one does for a living, we are all dependent upon the economics of the enterprise. The commodity market is certainly ruled by this and so is every little mining town that might become the next BIG THING.

But guess what? You and I are also ruled by economics. We only do something if we think we can make a profit from it; the same logic applies to mining companies.

There will be fluctuations in the opportunities in any mining area; several factors will affect the ebbs and flows of the micro economy of these types of areas. Let’s say a mining firm comes to a small town. In the exploration phase, nothing yet happens in our sleepy little town. Sure, there’s a few drillers passing through, staying a few weeks or months, but nothing is for certain.

Now say that a discovery is made. When a commodity is located underground, mining licenses are applied for at the government and state level. Even then, there is a lag in development because at that point, the mining firm will have to get approval for the permits and raise capital for operations. After successfully raising investment capital, there’s the construction phase, where another temporary population shift occurs.

Given that all of this may well take place over several months or even a year or two, how will you know which town is about to boom?

Affordability on rents is the trigger

The biggest indicator that a sleepy mining town is about to experience rapid growth is the town’s rental market. When workers begin arriving in town and rental properties become scarce, rents go up rather quickly. Rental inventory goes to zero almost overnight! The locals see their rents skyrocket immediately. This is the surest sign of an opportunity! But there are some caveats as well…

When the locals can no longer afford to live there, a couple of things happen. Many leave because they can no longer afford it. Another segment of the town, real estate owners who’ve had their property for years and now see its value double or treble in value in a matter of months, may well be compelled to sell their property, take their money, and move away. It’s a sad process to see, because the spirit of a place is often lost when it experiences a boom in growth.

Trouble with the local council

As you might expect, the town council gets an earful from the locals about all the very real problems they’re now experiencing. Growth in a boomtown is haphazard, and councils are typically not equipped to effectively handle sudden increased demands on infrastructure; after all they’re only elected officials. Many, or I should say, most councils do not have a process in place to shift from a sleepy little mining town to a growth area that explodes with sometimes hundreds of thousands of new people coming into the area.

Most town councils are made up of the local petrol station owner, a bar owner, a schoolteacher and other local folks who don’t have serious business knowledge, or for that matter, town planning knowledge or experience. So when a sudden influx of workers does happen in a matter of days or weeks, they are not prepared for the impacts that happen very quickly. The first impact, of course, is the sudden scarcity of rentals.

But scarcity of housing and inflated rental prices is not the only problem. The locals are often not too thrilled about all the new people coming into town, because that means more cars parked on the road, more workers–that is, more men about–and of course the higher rents that come with them.

So there are real conflicts that come with fast, unplanned–and unplanned for—growth in a town. But there are infrastructure conflicts as well. Like the limited rental markets in small towns, small town power grids are often too small for boomtown needs. The same goes with the sewage systems, the roads, the hotels, restaurants and bars. There’s just not enough of the little town to go around.

Development opportunity—and conflicts

As a real estate developer, you want to fill the need for housing in the boomtown and collect some high rents. And, from a builder’s perspective, you want to provide the kind of housing that appeals to the workers who will be renting from you. Most likely, it will be different than the normal development that the town is used to.

For example, a worker will want to have his own space, his own bedroom; but also enough space in that bedroom for a desk, a television, and usually an en suite. You will want to build these as cost-effective as possible, which means five or six or even seven rooms per building. This kind of development will typically be a larger structure than the normal townhouse or duplex that many of those sleepy mining towns are used to.

What happens next? The town council gets a bit testy, and seeks to control the “loss of spirit” in the town. And really, who can blame them?

But what they do to compensate for the out of control growth is to create additional requirements and charges for new developments, making things difficult—and quite expensive—for you.

There may be a long waiting list, for example, for just getting electricity to your planned development. They will also increase the filing charges, make the permit process much more complex, and above all, charge the builder several times the normal rate to get a development approved. I remember one of my projects went from a normal registration cost of around $14,000 up to $300,000! We appealed, of course, and eventually settled on $80,000.

Why would they do this? The answer is simple: because they can.

Boomtown lessons

On the flip side of boomtown growth is boomtown collapse. Unfortunately, this can happen even faster than the growth. That’s usually because commodity prices on the world market have fallen, making it uneconomical to continue on with the enterprise. When that happens, the town clears out, and rents readjust downward.

Does that mean your properties won’t be rented? Not necessarily; but the rents will be lower. That’s why it’s important to make use of the high cash flow you get when the town is booming to pay down debt on the development, so that it still works for you after the party is over!