A Couple of Commercial Real Estate Anecdotes

Here's a quick follow up to my post yesterday about two former Harry Macklowe-owned office properties in Manhattan, the Worldwide Plaza and 1540 Broadway.  Apparently the deal between Fillmore Capital Partners (the holder of the mezzanine debt on the defaulted properties) and Deutsche Bank (the former holder of the senior debt and current owner of the properties) could not reach a deal.  The contract was expected to be signed yesterday, but for some reason the parties didn't finalize the deal.  According to the article in the Wall Street Journal, Deutsche Bank has been trying to sell the properties since early 2008 when Macklowe defaulted and handed over the buildings.  The bank supposedly had bids in hand above $2 billion when NBC Universal walked away from signing a lease in the Worldwide Plaza.  To quote the Journal "That discouraged potential buyers who calculate returns on investment based on how much cash buildings generate from rent collections."  I like that.  Potential buyers in 2008 and 2009 apparently like to calculate returns based on actual cash flows from the building.  Whereas commercial real estate investors prior to the credit crunch calculated returns based on imaginary ponzi fairies that visited them in their dreams.  This sort of explains why we have a credit crisis.

Calculated Risk reports, via the Boston Globe, that the John Hancock Tower in Boston will be auctioned off March 31st.  The Hancock Tower was part of the Broadway Partners 2006-2007 leveraged buying frenzy.  Broadway paid $1.3 billion for the building in 2006 and the current value of the building is estimated at between $700 and $900 million.  Something about cash flows and rent being related to valuation...I'll have to check my notes.  In any event, anyone interested in bidding on this one, give me a call.  I've been looking to acquire a trophy property or two, but I'm a little short on the cash.  If we rub a few cents of equity together, line up the financing from Deutsche Bank, then maybe Deutsche can just shovel it into the TALF, and it's a win for everyone.  Well, almost...

Then again, maybe we don't want to bid too soon.  After all, the carnage in the commercial real estate market is really just beginning.  A friend sent along a link to a great article in DealBook yesterday about the wreckage following Sam Zell's ingenious sale of Equity Office Properties to Blackstone Group for $39 billion in 2007 (aka "the top".)  Blackstone flipped hundreds of the buildings for $27 billion to several overeager buyers.  Many of the 16 companies that bought Equity Office buildings are now stuck with significant debt while the value of the assets are plummeting as they struggle to fill empty office space.  Harry Macklowe was just the first to blow-out.  Maybe I'll wait to make a move on that trophy property purchase after all...    

     

Deutsche Bank Offers Financing to Unload Remaining Macklowe Buildings

The last time we checked in with Mr. Macklowe's commercial real estate legacy, it was May 2008.  The formerly high-flying real estate developer was dumping the GM building in Manhattan to pay back his mezzanine lenders, Fortress Investment Group, so that his personal assets would remain, well, his personal assets.  The sale of the GM building as well as three other towers went off without a hitch, as the commercial real estate market had yet to come to a screeching halt.  Mr. Macklowe was not booted out of his fancy digs at the Plaza Hotel.

But what has become of the other buildings Mr. Macklowe was forced to hand over to Deutsche Bank when he defaulted on his loan?  The Wall Street Journal has a good piece on two of the properties left in Deutsche Bank's possession: the World Wide Plaza and 1540 Broadway.  A San Francisco based hedge fund, Fillmore Capital Partners, is currently in talks to take control of the two office buildings.  Fillmore owns as much as $400 million in mezzanine debt on the properties and is considering purchasing the buildings to salvage its own souring investment.  Because doubling down on a losing bet is always a savvy investment strategy.    

Deutsche Bank apparently has attempted to auction the buildings and came close to doing a $2 billion deal, but the bids evaporated as the financial crisis mounted.  Complicating the matter further, both buildings have significant empty space making it much more difficult to garner a high value on the properties when the cash flows, well, aren't flowing.  According to the article it is unclear how much additional capital Fillmore would need to contribute to do a deal, but Deutsche Bank is willing to offer financing.  The good news is if a deal does go through, then Deutsche Bank will be relieved of this albatross and Fillmore Capital will be working hard to try to salvage its original investment, if that is even possible.  The bad news for Deutsche is that if it is providing the financing, in a year or two it may be experiencing deja vu all over again.  

Harry Macklowe Close to Unloading GM Building

Harry Macklowe, aka "I like to pay the high in commercial property prices," is reportedly close to a deal to sell the GM building to Goldman Sachs, Boston Properties, and two Middle Eastern investors. The deal would value the GM building at $2.8 billion, $200 million less than Mr. Macklowe's target price, but still a record for a single office building. Mr. Macklowe recently defaulted on $7 billion in short-term loans to Deutsche Bank and was forced to hand over the keys on seven buildings that he bought from Blackstone Group in early 2007. In addition to the properties he lost, Mr. Macklowe must now sell the GM building to pay off a loan from Fortress Investment Group. If the sale fails to satisfy the debt to Fortress, his personal assets are in danger. Those assets include some pretty fancy digs at New York City's Plaza hotel, where real estate developers have shown that they love to pay the high in their personal property purchases as well. The elevator at The Plaza Hotel is meanwhile becoming the place to exchange humorous anecdotes on "how I lost a bunch of money in the 2008 credit debacle." Apparently, Mr. Macklowe paid over $60 million to purchase several units at the Plaza in June 2007 with plans to combine them. Recently, Mr. Macklowe was joined at the Plaza by Jim Cayne, who closed on a relatively paltry $28 million apartment at the Plaza in March of 2008, right as his firm Bear Stearns was imploding. Apartments at the Plaza have been changing hands at prices of around $4,000 to $6,000 per square foot, but an Italian businessman is currently trying to punt his unit, on which he has yet to close, for over $10,000 a square foot. According to the Wall Street Journal on April 7,2008, Luigi Zunino was attempting to sell his apartment at the Plaza for $100 million. Mr. Zunino is in the real estate business, much like Mr. Macklowe, as his property development company bought the Manhattan flagship of Barney's last year, at the high. The stock of Mr. Zunino's property company is down significantly since then, so he is probably looking to make a quick buck and sell to a greater fool before he is forced to pony up the cash for his closing. The problem is, it appears as if all the greater fools already reside at the Plaza.

Ian Bruce Eichner Facing Foreclosure Again, Sixteen Years After Prior Foreclosures

Ian Bruce Eichner is joining the swelling ranks of former real estate moguls forced to hand over the keys to trophy properties. According to the Wall Street Journal, the developer was in negotiations with Deutsche Bank over the Cosmopolitan Resort Casino, a property in the midst of construction on the Las Vegas Strip. Deutsche Bank is on the hook for around $1 billion on the unfinished project as the property mogul defaulted on his loans late last year. Mr. Eichner claimed in an interview following the default that the credit crisis was the root of his problems and that banks would eventually lend to him again. "It's probably pretty safe to say that somewhere in 2009 or 2010, Bruce Eichner will surface with another one, something. There's zero that will stick to my shoes." I do enjoy it when over-levered egomaniacs blame their misfortune on the credit crisis, rather than their brilliant strategy of just borrowing money without any plan to pay it back.
Those who have followed the commercial real estate market for some time may be experiencing a bit of deja vu. Haven't I heard this guy's name somewhere before? Yes! Mr. Eichner was forced to hand over the keys to a series of buildings in Manhattan sixteen years ago. Yet somehow lenders thought he had developed some skill in managing his finances in the interim. On the other hand, according to The New York Times, in an article written in 1994, Mr. Eichner was quoted as saying "I've built three million square feet in Manhattan and none of it came in on budget or on time." Apparently, Deutsche Bank thought that this philosophy qualified him for a $1 billion loan. Now the bank is faced with yet another defaulted loan to work out, in addition to the $5.8 billion it lent to Harry Macklowe. At this rate, Deutsche may become a very large property manager in the US. Mr. Eichner can continue to believe that lenders will eventually come back begging him to take their money. If I ran the Fed, I would permanently ban any bank who lent this guy money again from accessing the discount window or any other loans provided by the Fed. Furthermore, if I ran Deutsche, I'd make him pay off his debts by washing my dishes for the next sixteen years. But since I only run MockTheMarket, the best I can do is call him and his lenders "idiots" and move on to the next inane story of the day.

Broadway Partners Honored With "Mini-Macklowe" Award

Broadway Partners, a New York real estate investor, is coming dangerously close to emulating its apparent hero Harry Macklowe, the New York real estate developer who defaulted on his debt obligations earlier this year. According to the Wall Street Journal's Property Report, (which requires a subscription so I cannot link) Broadway Partners, an extremely aggressive office property investor, is currently peering down from the top of the commercial real estate ponzi scheme and realizing that it may be the greatest fool. Apparently, Broadway acquired billions of dollars worth of office properties using short-term debt near the peak of the credit cycle and is now desperately trying to avoid handing over the keys to the trophy properties it has acquired over the years. The investment partnership will try to raise equity from its investors to buy back debt at a discount from the debt-holders. Furthermore, it is attempting to offload several properties in Houston and San Francisco in order to raise cash. Will Broadway be able to pull all of this off before the first portion of the short-term debt comes due in January 2009? That depends on how much the credit environment improves in the next six to nine months.
When I read stories like these in the press (please see my previous post about Frank Lembi for another example of a real estate titan who is punting properties after a debt-fueled buying spree), I start to wonder what all of these supposedly experienced and brilliant real estate investors were thinking when they paid sub-3% cap rates to buy investment properties. I understand that some markets are better than others. It is certainly the case that you should see 10% cap rates in a crummy market like Detroit that has horrible fundamentals and significantly lower cap rates in markets with strong fundamentals like San Francisco or New York. But why would anyone ever pay a cap rate that is less than the 10 year note for an illiquid asset? I was recently told by a real estate broker when comparing higher cash flows in a different city to properties in San Francisco that "San Francisco is not a cash flow market. It's an appreciation market." That has certainly been the case for the past few years and could continue indefinitely if investors weren't buying properties with enormous amounts of leverage, particularly short-term debt. This is how San Francisco became a "Negative Cash Flow Indefinitely, GET ME A BID FOR THIS BUILDING!" market.
While I'm busy honoring Broadway Partners for its real estate folly, I might as well hand out another award. This one goes to Sam Zell. I'll call this award: "I sold the high! Ha ha, suckers!" Sam Zell, for those who don't know, sold his REIT Equity Office Properties for $36 billion in early 2007 right before the credit markets took a dive. That's some good timing!

Is Frank Lembi the Next Harry Macklowe?

For those who haven't been following the New York commercial property market, Harry Macklowe is the guy who paid the high. He purchased seven properties from Equity Office Properties last year, putting up $50 million in equity and financing the balance of $7 billion with short term loans. He recently defaulted on the loans and is now selling the GM building to raise cash and handing over titles on the seven buildings to his lenders. Why does Harry Macklowe matter? Because he is a perfect example of what was wrong with the lending environment for the past few years that clearly extended beyond residential mortgages. Lenders bent over backwards to give this guy short term loans so he could overpay for properties where the cash flows didn't cover the debt service. You have to wonder, how many more Harry Macklowes are out there on the verge of blowing-out because the credit party is over?

Frank Lembi, founder of Skyline Realty, may be a mini-Macklowe in the making. Skyline has purchased close to $1 billion worth of multi-family properties in the San Francisco market in the past couple of years. The properties were apparently financed with 92% LTV loans (i.e. the company only had to put up 8% of the equity). If you read the two links provided below (one written in 2005, and the other in 2008), you'll see that Lembi's brilliant strategy of outbidding his competitors by about 20% for virtually EVERY multi-family property on the market in San Francisco and then financing the purchases with Wall Street money has paid off huge! Apparently, he is now desperately puking multi-family properties to raise cash to pay the bills. There's that pesky negative cash flow thing rearing its ugly head. 1330 Bush, a property that was financed with a $48.6 million loan from Nomura (according to propertyshark.com) is now on the market for $34.9 million, after being marked down from $39 million a month ago. Any takers? Anyone? Anyone? Tell you what, I'm $1 bid. And I'll even pay cash...

Harry Macklowe

Frank Lembi 2005 article

Frank Lembi 2008 article