A Student of the Real Estate Game

Interview with Urban Visions: The Importance of Sustainability

by Joe Stampone on February 8, 2010

Our nation is expected to grow by nearly 90 million people over the next 30 years. We face a critical choice: do we grow by sprawl and continue the destruction of biodiversity, social degradation and adverse climate impacts, or do we develop compactly, building diverse, healthy transit- served communities? It’s up to us.

Urban Visions is a progressive real estate development and brokerage company committed to smart growth principles, sustainable development choices and increased urban density. They’re leading the way to redesign and revitalize downtown Seattle.

Today we’re lucky to have an interview with Vice President of the Company, Broderick Smith. Broderick sits down with us to talk a little about the company, the importance of sustainability, the LEED system, and blogging. Be sure to check out their newly designed site and their blog for more information about the company and their projects.

Urban Visions is a very progressive company, can you tell me a little bit about the creation of the company, its values and why you as a company believe sustainable development is so important?

My father, Greg Smith, founded Urban Visions in 2002 with a commitment to sustainable development and smart growth principles, two fundamentals which he has bundled into all aspects of the firm. I like to think of it as a ‘sustainability screen’ that we’ve integrated into our decision making process – nine times out of ten a project or an idea comes out better than it went in when we run it through the ‘green lens’. Seattle, with its interesting land supply constraints (water, mountains, growth management act etc), was victim to a large amount of urban sprawl over the past twenty years. So taking that into consideration and balancing it with development, Urban Visions’ ultimate credo is to promote urban density and smart growth in order to protect the qualitative assets (Olympic Mountains, Mt. Rainier, Puget Sound, Lake Washington etc) that attract so many talented people and businesses to our region. In other words, our surrounding natural resources distinguish us from the competition; we want to preserve this competitive advantage for the city while creating exciting places to live, work, and play.

Prior to founding Urban Vision’s, Greg was a principal of his father’s firm, Martin Smith Inc. He also founded Martin Smith Development Corporation where he developed buildings such as Millennium Tower, and entitled/sold other sites such as IDX Tower. He left because he wanted to pursue his passion for development and the environment. It was a strange concept to some at the time, but one which now makes perfect sense.

What projects are you currently working on? Do you have any development plans in the pipeline?

We are currently working on several projects. The most relevant is Seattle’s first Hard Rock Café, a LEED Gold (soon-to-be) certified restaurant, bar, and concert venue scheduled to open in February. It is a very exciting development – Hard Rock gets it when it comes to sustainability and responsible development, and they fully embraced the LEED process. We acquired the building, a former pawn shop and adult book store in front of the Pike Place Market, in 2006. The location along Seattle’s busiest pedestrian corridor, Pike street, is phenomenal; Hard Rock will bring great energy to the area, which currently receives more than 10,000,000 visitors each year.

We are also working on entitlements for a 35 story LEED–certified apartment tower across from Hard Rock’s new location. The 19,000 SF site is currently a parking lot but will eventually address a 440 foot tower with 340 apartments plus a sky bar and restaurant overlooking Pike Place Market. Tom Kundig, recipient of the 2008 National Design Award in Architecture Design, is designing the tower. His talent coupled with Greg’s vision is a remarkable combo. This project, which is being modeled after the concept of an ‘urban tree’, will be a unique and iconic addition to the Seattle skyline.

We’re also working on a Green Auto Row to support what we see as a revolution in the automotive world (the Nissan Leaf for example); there are some other projects we are molding right now that have not yet gone public. It’s a great time to get creative and tee-up for the next cycle.

There is this misconception that there is a prohibitive cost premium to building green. What will need to happen to change the general public’s view?

Our view is of course very micro in the whole scheme of things since we focus on the Seattle market, however in Seattle, the demand is here. We see it and we hear about it on a day to day basis. There are skeptics out there, but we think the evidence is overwhelming for developers and landlords.

Ultimately we think it comes down to smart design. As more and more architects, contractors, and developers familiarize themselves with the process, the more innovative and cost effective the green process will become. Technology plays a huge factor in this as well. I’m a big believer in letting markets move naturally, and I’d like to think the markets are naturally demanding a sustainable, healthy product. The government is getting involved, but I think it’s only speeding up the process, not forcing it. Large corporations are demanding it (Microsoft for example), and this continued demand will help reshape the misconceptions regarding the green premium.

There are studies that show LEED accredited buildings obtain higher occupancy and rental rates than their peers (check out a new study by CoStar on this subject). Eventually I think this rent premium will disappear. Instead, Landlords with inefficient buildings will be penalized by the market (IE discounted rents).

Has the green building premium almost completely disappeared?

If you are referring to the green premium as it relates to construction, there is still a cost. From what I understand, it really depends on the quality of the team you’ve assembled to get you over the LEED hurdle. I’ve heard of projects coming in with almost no green premium, and others with quite a large premium. Its’ also important to note that there is a relationship between the green premium and the total project cost. A sustainability ‘guru’ from a prominent construction firm recently told me that a $5,000,000 project might have a 2.5% premium, while a $200,000,000 project might have a 0.10% premium. These are estimates of course, but his point is the premium varies from project to project based on size and design.

Say a LEED Silver project that cost $200 PSF included a 2.5% ‘green premium’, or $5.00 PSF, but the landlord received an additional $1.00 PSF in rent per year. Who knows where CAP rates are today, but say they’re at 8.0% here in Seattle for office product. If that were the case, I would pay the 2.5% premium… Another reason why I would spend the money is some funds and investors won’t even look at your building anymore if it’s not LEED, and the same holds true with tenants in the market. Tenants are going to become more and more conscious of a buildings’ energy efficiency, and the governments are going to monitor it as well (sub-metering will become a must.)

The company also has a blog, how has blogging helped the company? Have you done any deals or got any business directly through the blog?

The blog is a fantastic communication medium for us. I like it more than other social media because we own and control the space right down to the domain. We can completely customize the site, and our brand is not diluted by another brand, person, or advertisement. Delivering the latest news or our thoughts on a particular subject is fairly simple; in other words you don’t have to be a web-dev to figure out how to update the page. We’ve integrated our blog into the new website, and we are preparing to unveil some innovative new features to better integrate the blog with our business.

To answer the second part of your question, we have received business through our blog, and I think this trend will only grow in the future. I use Google Analytics to track how many people read it and what content they were most interested in, and find that feature very useful to gauge what’s working and what isn’t.

You’re studying for your LEED AP Designation, how has that process been?

I thought about taking the exam before the new LEED guidelines were passed, however I decided to wait and study the new system, LEED 3.0. I am currently involved in the LEED EBOM process for an Urban Visions’ building down in Pioneer Square, so I plan to take the LEED 3.0 test later this year once this is complete. Based on the practice tests I’ve seen, its challenging.

Do you like the LEED system?

I think it’s a fascinating system and a huge step in the right direction; it is important for me to work in a building that speaks to my values and most importantly my health. I like knowing that I’m breathing clean, filtered air, that the paint on my walls is low or no VOC, that my lighting is efficient with low mercury, and that if I want a breath of fresh air, I can open one of the operable windows nearby. But like any system it’s not perfect. I can share a frustration with it in fact; in 2004 Urban Visions began redeveloping a 60,000 SF building in Pioneer Square, Seattle’s Historic district. The building, constructed around 100 years ago, already held a huge amount of embodied energy, so I think there should have been an enormous credit right there for the redevelopment versus demolishing the structure and building a new development with new materials. Anyhow, Greg had a mill brought onsite so that the construction crew could harvest the buildings’ old timbers to make stairwells, flooring, ceilings, new beams etc. The results were beautiful and we saved a lot of material in the process. But when it came time to go through the LEED scorecard, we really didn’t receive that much credit for something that seemed so innovative and for a lack of a better word, sustainable. They’ve released new versions of LEED since then, but I think there is always room for improvement. I’m really fascinated with the LEED EBOM process right now, especially given the current built environment (or lack thereof).

You also completed a 1 year intensive Commercial Real Estate Program through the University of Washington. How has that program helped you in your career? Why did you choose that program over Runstad Center for Real Estate?

The program was excellent – it’s essentially a one year crash course taught by various big hitters in the Seattle real estate world. Hearing how things really work from people who are actually out in the battle field on a day to day basis really grabbed my attention. Asides from the knowledge, the networking opportunities were second to none.

So in short I ended up applying to this program over the Runstad Center because I liked the idea of having so many different professors throughout the year.

Does the program have a focus in sustainable real estate development?

The program did have a short segment focused on sustainable real estate development – it was excellent and I would have liked to spend more time on the subject. We had probably 40 professionals come teach throughout the program, and I would guess 60-70% of them brought up sustainable real estate development one way or another and how it influenced their industry and product type.

What are your future aspirations in real estate?

My future aspiration is to become a successful developer; I really want to contribute to the Seattle skyline and create. But for now, our principals Greg Smith and Dana Beckley are extremely talented and great teachers, so my plans are to continue working with them and the Urban Visions’ team. Though I’ve graduated from the UW program and a few other courses, I think I’ll always view myself as what you would call “A Student of The Real Estate Game”.

If you have any questions on sustainability post them in the comment section below or reach out to the Urban Visions team directly.

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How Bad 2009 Was for Building Sales And What 2010 Might Bring: A Jump in Sales Volume, Though Flat Pricing at Best

by Joe Stampone on February 7, 2010

Robert Knakal of sales firm Massey Knakal is one of the foremost authorities on the New York City real estate market. His latest newsletter recaps New York City’s building sales market in 2009 and has some predictions for 2010. Check out his blog which was featured in the 10 Commercial Real Estate Blogs to Watch in2010. Here’s what Mr. Knakal had to say:

In 2009, the building sales market in New York City sucked. I mean, it really sucked. Volume hit an all-time low and the general demeanor of participants in the marketplace was subdued at best. Provided below is an overview of the market; if you are a frequent reader of Concrete Thoughts, you know that I prefer to discuss conditions in terms of numbers and statistics rather than adjectives. The analysis that follows will show you just how bad the building sales market was in 2009.

The marketplace that I will cover here is New York City, leaving out Staten Island. Our statistical sample includes approximately 165,000 properties. In 2009, there were $6.3 billion worth of building sales transactions (this includes all sales above $500,000 in value). This level of sales was down 75 percent from the $25.3 billion in sales that occurred in 2008 and down 90 percent from the record $62.2 billion in sales that occurred in 2007.

Of this $6.3 billion in sales, 32.6 percent occurred in the office-building segment; multifamily properties made up about 20 percent of the dollar volume. Dollar volume dropped the most in Manhattan, which saw a 92 percent reduction from the peak; and the smallest drop was in Queens, which saw a 77 percent reduction in volume from the peak.

In 2009, there were 1,436 buildings sold, which was down 54 percent from the 3,144 buildings sold in 2008 and down 71 percent from the 5,018 that were sold in 2007. The most active segment within these sales was multifamily, which saw 443 buildings traded, or roughly 30 percent of the total. Office buildings, while making up nearly a third of the dollar volume of sales, accounted for only about 3 percent of the number of buildings sold, with 50 buildings trading hands.

If we compare the 90 percent reduction in dollar volume to the 71 percent reduction in the number of buildings sold, it is very clear that we saw a bias toward smaller transactions in 2009. The main reason for this bias was the condition of the debt markets. We started to feel the effects of the credit crisis, tangibly, in the summer of 2007. It was at that point that many of the commercial banks and money center banks withdrew from real estate lending.

In New York, we were fortunate that we have very active community and regional banks that continued to lend throughout the recession. These lenders, however, generally have a comfort zone of approximately $30 million on an individual loan basis. Given today’s average loan-to-value ratio of about 60 percent, this creates a plateau at about $50 million, below which financing is generally available and above which financing becomes more challenging. It is for this reason that we saw this trend toward smaller transactions last year.

We like to express the velocity of sales in terms of the number of properties sold out of the total stock. If we divide the 1,439 buildings sold by the total stock of 165,000, we come up with a turnover rate of 0.87 percent, an extraordinarily low figure. For perspective, the average turnover rate, going back 25 years, is 2.6 percent. Since 1984, the lowest turnover rate we had ever seen was 1.6 percent, in both 1992 and 2003. Both of these years were at the end of recessionary periods, and they were also years in which we saw peaks in cyclical unemployment.

In 2007, the turnover rate was 3.04 percent. These figures are remarkable when you consider that even during a record-breaking year in 2007, the 3.04 turnover ratio would indicate an average holding period of 33 years for the average asset. The 0.87 percent experienced in 2009 extends this average holding period to more than 115 years! These figures are truly remarkable.

In 2009, the market with the highest turnover rate was northern Manhattan (defined as north of 96th Street on the East Side and north of 110th Street on the West Side), with a turnover rate of 1.33 percent. The lowest rate was seen in Brooklyn, which experienced turnover of 0.73 percent.

Last year, the average building in New York City sold for $4.4 million. This was a drop of 65 percent from the $12.4 million average in 2007. Brooklyn and Queens had the lowest average building-sales price, at $1.7 million in each market; not surprisingly, Manhattan had the highest average building sale price, at $12.9 million. This average is down 75 percent from the peak of $52.5 million in 2007.

With regard to value, we saw very interesting dynamics in 2009. Average prices per square foot increased in the second half of 2009 compared to the first half of 2009. This was the case for all property types and was consistent across all boroughs. Under ordinary circumstances, we might be tempted to conclude that this indicates a bottoming in terms of value. Across all markets and all property types, however, we saw cap rates continue to expand and gross rent multiples (for multifamily) continue to decrease. This counterintuitive dynamic leads us to assume that this increase in price per square foot was merely a reaction to an overshooting to the downside in the first half of 2009,and the realization that better-quality assets were sold later in the year.

The average capitalization rate on walk-up apartment buildings citywide was 6.92 percent, and the average cap rate on elevator buildings was 6.12 percent (clearly, cap rates vary widely by location). Cap rates increased from their low point by 114 basis points for walk-ups and 144 basis points for elevator buildings. The highest cap rates were observed in the Bronx, with walk-ups trading at an average of 7.87 percent and elevator buildings registering an average of 8.10 percent. The lowest caps were, not surprisingly, in Manhattan, with walk-up buildings averaging 5.05 percent and elevator buildings averaging 4.52 percent.

The lowest gross rent multiples in the market were in the Bronx, averaging in the mid-sixes, and the highest were in Manhattan, which were in the thirteens. Reductions in multiples from the peak averaged 1.59 for walk-ups and 2.89 for elevator properties.

Value per square foot, on a market-wide basis, averaged $206 for walk-up buildings. The lowest average was in the Bronx, at $82, and the highest average was in Manhattan, at $482. In the elevator building class, the average price per square foot citywide was $173, with a low of $68 in the Bronx and a high of $452 in Manhattan. Interestingly, while elevator buildings are more highly sought after than walk-ups, the average price paid per square foot for walk-ups was higher than the average price paid for elevator properties. This is because the turnover of regulated apartments in elevator properties is substantially lower than the turnover in walk-ups-tenants aspire to “graduate” from walk-ups to better-quality elevator properties, and regulated tenants have very little motivation to move out of an elevator building.

Mixed-use properties (those that have at least 20 percent of total square footage occupied by retail) averaged $289 per square foot citywide, with the low average in the Bronx at $142 and the high in Manhattan at $599.

With regard to pricing trends, in 2009 the market that was most adversely affected, relative to its peak, was northern Manhattan, where, depending on property type, values fell from 39.4 percent to 55.1 percent. In Brooklyn, value held best with reductions ranging from only 5.3 percent to 21.7 percent.

As I mentioned earlier, price per square foot was up in the second half of 2009 versus the first half; however, we do not believe this is an indication that pricing in New York has hit bottom. We believe it was simply a reaction to an extraordinary drop in value in the first half, and better-quality assets trading in the second half. We believe that a bottoming in value will occur near the point at which unemployment peaks. This is when our fundamentals will be at their weakest.

Now we move off that bottom will be dependant upon several things. The most important is the rate at which job creation occurs, which will positively impact our fundamentals. Other factors will include the de-leveraging process that remains on the horizon. We estimate that there are approximately 15,000 properties in New York City with negative equity today. There is approximately $165 billion of debt on these properties, and if underwritten based on today’s standards, they would support a leverage level of only $65 billion.

Clearly, $100 billion of this leverage will not be extracted from the market; however, we believe that before the dust settles, we will see losses in the $30 billion to $40 billion range. This de-leveraging process, which is likely to be most acute in 2011 and 2012, as the 2006 and 2007 vintage loans mature, will lower pricing.

Another factor that will have significant implications for our sales market will be the Fed’s exit from the marketplace. The Fed can use one of four mechanisms to accomplish this. Three of those-ceasing to purchase assets (which have mostly been mortgage-backed securities and treasuries), the selling of assets or the raising of the Federal Funds rate-will all increase interest rates, which will have a negative impact on value. The fourth, draining excess bank reserves, will reduce the potential pool of capital from which real estate loans could be made. The implications for real estate based upon the Fed’s exit are resoundingly negative.

On the positive side, the significant amount of capital on the sidelines will raise prices. After value hits bottom, we expect it to bounce along this bottom for an extended period of time. Whether that bouncing trends slightly upward or slightly downward will be dependant upon which of the previously mentioned factors dominate.

We expect sales volume in 2010 to increase to 1.2 percent for the entire marketplace, representing a nearly 40 percent increase in activity. In Manhattan, we expect volume to hit 1.6 percent, representing about a 37 percent increase. With regard to value, we expect average pricing to be in the range of flat to down 5 to 10 percent throughout 2010, subject, on the downside, to changes in bank regulator’s treatment of mark-to-market and, on the upside, to job growth greater than anticipated. Basically, 2010 should suck a lot less!

rknakal@masseyknakal.com

Robert Knakal is the chairman and founding partner of Massey Knakal and has brokered the sale of more than 1,050 properties in his career.

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Columbia University Real Estate Finance on iTunes

by Joe Stampone on February 5, 2010

I’m happy to report that I’ve tracked down and removed the code that has been affecting my site and causing the redirect. If you’re still experiencing issues please let me know.

As I mentioned in an earlier post, there has been a dramatic shift in the way people approach education. Abundant education is now easy to access and offers motivated individuals a chance to learn. This has come even more apparent to me when I learned that Josh Kahr will be posting the lectures from the Real Estate Finance course he teaches at Columbia’s Masters in Real Estate Development Program on iTunes (for free).

Here’s the link.

This is starting to become the norm at elite Universities (check out iTunes U), but it’s the first time I’ve seen it done by a professor in a masters of real estate program. I hope other professors follow Josh’s lead. Not only is a great way for students to learn, but it also serves as a way for Josh and the University to expand their brand. I wish Josh would take it a step further by making the syllabus and handouts available online in addition to the video.

Although I believe there is no substitute to actually being in the classroom and interacting with professors and other students, this is a great way to learn. Many programs are prohibitively expensive, and motivated individuals can learn just as much by reading and doing work on their own.

Are professors in other real estate programs doing similar things?