Office-to-Apartment Conversions – Far From 'Easy Money'

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In today's email: Developers are hungry for office-to-apartment conversions, if only they could find willing lenders. Brookfield Properties and The Mankiti Group release new details on Phase II of their D.C. waterfront project, The Yards. And Corcoran Living Group’s SoCal division collapses after brokers allege fraud and dishonest business practices.

READ, WATCH, LISTEN

• 📖 Read: AmEx pulled a bait-and-switch by luring big spenders to their Platinum Card with shiny benefits, only to raise their fees mid-pandemic—and it worked.

• 💻 Watch: CEO Andrew Spodek discusses how Postal Realty Trust, Inc. positioned itself to corner the market for properties leased to the U.S. Postal Service.

• 🎧 Listen: Hear the lessons office broker Sarah Kennington learned about office leasing and growing a business after 20 years in the industry (and yoga practice).

THE CONVERSION QUESTION

Office-to-Apartment Conversion Not Necessarily a Win-Win

As demand for office space plummets, investors are now more interested in office-to-apartment conversions. But lenders worry that most developers want to charge higher rents than tenants can afford, and few are willing to issue loans for such projects. 

The optimists: Some developers are surging into the conversion space by underwriting projects and trying to raise capital via crowdfunding. NYC developer Silverstein Properties (SPI) is raising $1.5B for what it sees as a $10B+ opportunity in the office-to-apartment conversion space. Invesco (IVZ) is also increasing its exposure to this niche.

The pessimists: Lenders are cautious. They view conversions as riskier than ground-up construction and set stricter loan terms as a result—if they loan anything. With sky-high rates spooking big banks, most developers raise capital by securing several loans from a bevy of small local banks that can’t afford to subsidize the whole project. Lender hesitation is partly a sign of the times, but it’s also a sign of their less-than-total confidence in the conversion business to begin with.

The landscape: According to Jessica Morin, CBRE's Americas head of office research, there are currently 125 ongoing office conversion projects in the United States. Of these projects, 30% are being converted into apartment buildings, 50% are being converted into life sciences facilities, and the remaining 20% are being converted into hotels and other uses.

➥ THE TAKEAWAY 

The big question: Whether many of these projects go forward and receive financing depends on government subsidies. Denver, Washington, D.C., Baltimore, and California have all allocated portions of their budgets to subsidize conversions for affordable housing. But the problem is that most conversions result in luxury apartments for the rich. Some analysts even believe that the most viable candidates for conversion into cheap apartments have already been taken.

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THE YARDS

New Details Released for Phase II of D.C. Multipurpose 48-acre Development

On Tuesday, Brookfield Properties (BPYPO) and the Menkiti Group released new details regarding Phase II of The Yards, the 48-acre waterfront development they’re building together in D.C.’s Navy Yard.

The full nine yards: Phase II will add two new residential buildings to the project for a total of 681 new units. Up to 30% of these will be affordably priced for those who earn substantially less than the area’s median income of $93K. Phase II will also add a waterfront public park and low-cost, incubator retail space for local-, woman-, and minority-owned businesses. 

Walking the walk: Much of Phase II’s work concerns public works projects in Diamond Teague Park, right next to Nationals Park. Brookfield and Menkiti will add public green spaces to Diamond Teague and host free community events, similar to Yards Park. They’ll also create paths in Diamond Teague that improve connectivity between the waterfront and surrounding neighborhoods, including the Anacostia Riverwalk Trail.

➥ THE TAKEAWAY 

The whole package: Once complete, The Yards will contain 25 buildings and a total of 3,400 multifamily units. In addition to the waterfront park, The Yards will also feature 400 KSF of retail space, a flagship 225-room Thompson Hotel, and 1.8 MSF of office space. All they need now is a helipad.

CURTAINS FOR CORCORAN

Broker to Close SoCal Division in Wake of Fraud Charges

Following allegations of fraud and unpaid commissions, The Corcoran Group (CLG) has closed its biggest franchise, CLG’s Southern California Division. By year’s end, CLG SoCal will shutter all offices and cease all operations. 

The bigger they are… At the beginning of 2022, Corcoran Global Living claimed to have nearly 2,600 agents across 70 offices and gross annual sales of $10B. Now, their website shows only half those agents and none of the SoCal offices. Sounds about right.

… The harder they fight: Numerous brokers have sued CLG alleging fraud, breach of contract, and six figures or more in unpaid commissions due to shady and dishonest dealings by CLG CEO Michael Mahon. But Mahon also sued Corcoran, which sued him back dismissing his allegations as a distraction from his own crimes. More popcorn, please.

➥ THE TAKEAWAY 

Kick that can: Corcoran is a subsidiary of Anywhere Real Estate (HOUS), which countersued Mahon on Corcoran’s behalf. Anywhere announced in November they were searching for a new owner for Corcoran. At this point, they might just take whatever comes their way. Anywhere’s stock has fallen 56% this year as the real estate market slows. Given all the lawsuits, Corcoran will be a very tough sell.

📰 Editors' Picks

• Breaking Bankman: The Bahamanian government wants FTX’s real estate holdings before the bankrupt crypto firm liquidates them for quick cash.

• Nothing but the best: High-end office tower One Madison Avenue is about to open, attracting corporate tenants despite the office space glut, thanks to its superior location.

• Only in the Orange State: NYC-based Chetrit Group is going all-in on its $1B multifamily development in Miami, banking on Miami’s real estate boom lasting for a very long time.

• The well runs dry: In light of economic uncertainty and rising interest rates, big banks have decided to rein in their CRE investments until market conditions improve.

• Merger no more: The Murdoch family’s News Corp. faces investor pressure to spin off subsidiary REA Group after landing a $6.8B real estate deal.

• More walks at Fenway: As part of Boston’s initiative to prioritize pedestrians, the city plans to build walkways to make Fenway more accessible to foot traffic.

• Evict Elon: In an effort to cut costs, Musk has reached an unusual conclusion by deciding that Twitter (TWTR) just won’t pay its rent.

🤝 Deals & Dealmakers

• Pasadena purchase: Hill Street Realty expands their SoCal holdings with the acquisition of a $38M multifamily complex in Pasadena, CA.

• Northeast’s new lease: CRE mortgage broker Eastern Union has secured $79M from Kearny Bank to refinance their New York and New Jersey assets.

• More in Midtown: Highwoods and The Bromley Cos. embark on a joint venture to develop a multi-customer office development in Midtown Tampa.

• Topping out: A JV between SL Green Realty Corp. (SLG), Hines, and the National Pension Service of Korea has topped out the $2.3B, 1.4 MSF redevelopment of One Madison Avenue.

• Crystal’s crown jewel: Crystal Cruises has just moved their headquarters to Aventura, FL, by signing a 15 KSF lease at the Optima Office Campus.

• Chickening out: Walmart (WMT) sells a 130 KSF Springdale call center to Tyson Foods (TSN) for $19.3M, or $148.80 per SF. 

• Thank you, come again: Veris Residential's board just gave Kushner Cos. the ol' "thanks, but no thanks" yet again on their latest takeover bid. Apparently, they want a sweeter deal and some answers about where Kushner plans to get the dough for the acquisition.

 📈 Chart of the Day

The Federal Reserve's efforts to control inflation are making it more difficult and costly for multifamily real estate borrowers to secure loans. Interest rates are on the rise, and the percentage of the loan compared to the property's value has fallen, increasing the cost of loans by more than 10% for borrowers.

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DISCLAIMER: None of this is financial advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. Please be careful and do your own research.