| Skyscraper Fire Sale |
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| Written by Allen Cymrot |
| Tuesday, 18 August 2009 10:12 |
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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.
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. At first glance, a 65% reduction may seem like a steal, but a closer look reveals the true reasons behind the urgent need to sell. When such desperate measures are taken, the only logical conclusion is that there must be a reason. And that reason is what investors must investigate before succumbing to the lure of initial savings. 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. Because declines in real estate prices are so tempting, many investors find themselves in a scenario such as this. Once the property has been purchased, there are two options: fix it or sell it. Of course, selling it will result in a loss, but fixing it will require a large investment. But despite the overwhelming realization that the property is in trouble, it is often possible to rectify the situation. This will not be a simple task, but it may be worth the effort. If the goal is to rent 10% of the available space per year, the occupancy rate will increase from 50% to 95% in five years. Some of the items that must be addressed are updating the rental space and commission for leasing agents, not to mention the negative cash flow already in place. In these circumstances the tenant typically requires agreed upon improvements before signing the lease agreement. In a market such as this, renters can request more because the owner is pressed to fill the space. In New York City the average cost of updating a space is $125 for each square foot, in this case resulting in a $45 million expense based on the 360,000 square feet of empty space. Another cost to be considered is the 5% - 6% commission paid to the agents responsible for acquiring the renters. Let's say the owner can charge $55 per square foot each year for five years. At a rate of 5%, almost $5 million must be paid to the leasing agent upon finalization of the lease agreement. What makes the negative cash flow fascinating is the impossibility of projecting other than losses will be large. The buyer only hopes that they are not larger than the money set aside to cover them. It will be in the millions per year. The bottom line is the buyer paid $600 million for a failing speculation. Assuming the economy cooperates and concessions aren't a factor, what can the investor expect? Using the numbers above, and a 6% capitalization rate, the property could be worth approximately $750 million in five years. An interesting side note would be who received the leasing commissions, property management fees, insurance commissions, and capital improvement oversight fees? The real question then might be: Was it a good buy or a bad buy, and for whom? DISCLAIMER: This article is provided as information only and is not to be taken as financial advice. Allen Cymrot is a tested investor and strategy consultant for real estate investment. His investment principles and cap rate recommendations can be found at http://www.netgainrealestate.com Grab a totally unique version of this article from the Uber Article Directory |