Last week the media reported that a NYC skyscraper sold for about $600 million, and according to Real Capital Analytics the prior purchase price was $1.74 billion. The property has 1.8 million gross square feet, 1.6 million rentable square feet, and is 50% vacant.
A sale price of 65% of the original cost is enough to draw the attention of even the most cautious of investors, but those who are both careful and keen know that there is more to a good investment than a low price. A decrease of this magnitude in the span of two and a half years is an indication that something is amiss.
Just as the rest of the country is experiencing economic hardships, New York City is seeing drops in monthly rental rates and less demand for rental units. With a building that is only half full, as was this building, the investor is most certainly losing money. In the best possible scenario, the buyer would have paid cash for the property, and still the operating costs would be higher than the rental income. The bottom line is that the buyer who thought he was getting a great deal, paid $600 million on a property that will cost more to maintain than the income it will generate.
Although this situation seems hopeless, it is possible to turn it around. The property can be brought to a profitable level by acquiring renters to reach a 95% capacity. This can be done realistically by increasing leased space by 10% each year for a span of five years. Significant financial investment is needed to improve the units and pay necessary commissions. This is in addition to the costs of maintaining the property until it generates a positive cash flow.
New lessees never say the space is perfect. In weaker markets, lessees are more demanding and the lessor pays. To get to 95% physical occupancy, 360,000 square feet need to be leased. The going rate for TIs is in the area of $125 per square foot. That comes to approximately $45 million.
Not only do costs attributed to remodels and maintenance take a financial toll, but there are also certain fees and commissions associated with rental space. Agents charge fees of 5% to 6% of the lease amount to locate renters for the property. This fee must be paid up front. So at a 5% commission rate, the investor will pay about $3 million on a three-year lease at $50 per square foot.
Interestingly enough, this investment may have a positive outcome for individuals involved in the transaction, such as the recipient of the fees for insurance, management, and oversight. As for the investor, if concessions do not have a negative impact and the market takes a turn for the better, in five years time the property has the potential of growing to $750 million at a 6% capitalization rate. All that is left for the buyer to do is weigh the options and determine the best course of action.
A sale price of 65% of the original cost is enough to draw the attention of even the most cautious of investors, but those who are both careful and keen know that there is more to a good investment than a low price. A decrease of this magnitude in the span of two and a half years is an indication that something is amiss.
Just as the rest of the country is experiencing economic hardships, New York City is seeing drops in monthly rental rates and less demand for rental units. With a building that is only half full, as was this building, the investor is most certainly losing money. In the best possible scenario, the buyer would have paid cash for the property, and still the operating costs would be higher than the rental income. The bottom line is that the buyer who thought he was getting a great deal, paid $600 million on a property that will cost more to maintain than the income it will generate.
Although this situation seems hopeless, it is possible to turn it around. The property can be brought to a profitable level by acquiring renters to reach a 95% capacity. This can be done realistically by increasing leased space by 10% each year for a span of five years. Significant financial investment is needed to improve the units and pay necessary commissions. This is in addition to the costs of maintaining the property until it generates a positive cash flow.
New lessees never say the space is perfect. In weaker markets, lessees are more demanding and the lessor pays. To get to 95% physical occupancy, 360,000 square feet need to be leased. The going rate for TIs is in the area of $125 per square foot. That comes to approximately $45 million.
Not only do costs attributed to remodels and maintenance take a financial toll, but there are also certain fees and commissions associated with rental space. Agents charge fees of 5% to 6% of the lease amount to locate renters for the property. This fee must be paid up front. So at a 5% commission rate, the investor will pay about $3 million on a three-year lease at $50 per square foot.
Interestingly enough, this investment may have a positive outcome for individuals involved in the transaction, such as the recipient of the fees for insurance, management, and oversight. As for the investor, if concessions do not have a negative impact and the market takes a turn for the better, in five years time the property has the potential of growing to $750 million at a 6% capitalization rate. All that is left for the buyer to do is weigh the options and determine the best course of action.
About the Author:
Allen Cymrot is a veteran investor and strategy consultant for real estate investment. His investment principles and cap rate recommendations can be found at http://www.netgainrealestate.com
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