Hartman Simons Commercial Real Estate Blog

MOBs: A Prescription for Commercial Real Estate Investors

By Andy Litvak, Hartmans Simons partner

 

Note: This post originally appeared on the Atlanta Business Chronicle's Real Talk blog.

The last several years have proven to be an extremely volatile period for investors and owners of commercial real estate properties.

While real estate investment has never been for the faint of heart, thoroughly vetted and calculated investment strategies have typically proven to produce strong yields (irrespective of asset class). Given the nature of these tumultuous times, I have observed many of my clients gravitate toward far ends of the investment spectrum.

By way of example, many have employed a "carpe diem" attitude and have attempted to seize the day by capturing perceived home run opportunities and returns in the distressed property arena. These distressed asset strategies have been the topic of much discussion of late, and there are certainly no shortage of hungry investors seeking to acquire REO or so-called "value" add properties, purchase notes at significant discounts or otherwise eager to recapitalize underfunded partnerships by injecting fresh equity.

On the other side of the spectrum, however, there are legions of investors seeking stable properties which produce consistent, low risk dividends. Many of these buyers are institutional players (REITS, life companies and pension funds), and their individual investors and annuitants are craving "coupon-clipper" deals producing reliable and consistent income streams. Along these lines, net-leased properties with corporate or other high credit tenants and grocery anchored retail centers have proven to be very attractive.

The strong demand for these stable properties has resulted in bidding wars and cap rate compression. Although, perhaps the new leading contenders in this category are "MOB's" - medical office buildings.

Long before the current real estate downturn, MOB's were viewed as recession resistant properties. The strength and credit of the physician practice group tenants, historically low turnover and consistent patient base requiring medical services lends to an inherently strong degree of stability. Now, fast forward and infuse equal doses of the ever-evolving world of health care legislation reform, new trends in practice group and hospital consolidation and other anticipated changes in health care delivery models — and you have all the ingredients to attract major interest in MOB investment by sophisticated investors.

Four on Friday: Jim Irwin of Green Street Properties

Jim Irwin is knee-deep in one of the most exciting projects in Atlanta real estate: the transformation of the historic City Hall East on Ponce de Leon Avenue into a mixed-use facility. When finished in two years, the in-town building – once a Sears warehouse and distribution center – will feature more than 1 million square feet of office, retail and residential space. 

Irwin is vice president, development, at Green Street Properties – a Hartman Simons client – and is leading the effort to redevelop the property. Green Street is a subsidiary of Jamestown Properties, which recently purchased the building from the city of Atlanta. We recently caught up with Irwin and asked – you guessed it – four questions about his firm, its projects and his hobbies.

HS: Your most high-profile project in Atlanta is the Ponce City Market project. What’s the current timeline for development of the facility, and how will the space be divided up when it’s finished? 

Irwin: We are slated to open in the spring of 2014. Construction began last October. The first phase has largely been one of demolition, and will last a total of about six months. We will begin demolishing the old parking deck by the beginning of February.

We are not removing any historic structures, but there are a lot of layers to remove to get to the original structure.

These are rough numbers at this point, but the final building will have about 300,000 square feet of retail, 400,000 square feet of Class-A office space and 200 apartments, and maybe a boutique hotel.  All under one roof.

There’s really no other project like it in the market. There’s a dearth of loft Class-A office space in Atlanta. The building still has the original hardwood floors from the 1920s and all the associated character, but will be combined with all of the modern conveniences of a new office building.

HS: Explain Green Street’s development philosophy. Is the Ponce City Market project indicative of the kind of projects your firm undertakes? 

Irwin: It is. We focus on urban infill projects located in historic, character-driven buildings. Another recent example in Atlanta is the Westside Provision District, a 110,000-square-foot, mixed-use project that we developed out of an old meatpacking plant on Atlanta’s West Side. The development features retail, fine dining and high-end residential units. 

Also, sustainability is a fundamental part of what we do. Our development projects are part of the live-work-play movement, and our consulting team offers a range of LEED, Energy Star and overall energy efficiency services for both new and existing buildings.

Ponce City Market’s proximity to the Beltline is huge for the project and is an example of the way that our projects incorporate accessibility to rail, biking trails, etc.

HS: What demographics are most responsive to your projects?

Irwin: They particularly resonate with the “creative class.” But we’re finding companies of all stripes are interested in office space in these live-work-play environments. They are becoming very savvy about employee satisfaction and retention, and they know that their employees want to be in authentic places, buildings that have a lot of character and are unique.

People – whether it’s residents, office workers, shoppers – they want to be in places that aren’t sterile.

HS: How do you like to spend your free time?

Irwin: I like to spend time with my two sons: Drew, age 2, and James, age 4. I enjoy coaching them in sports. I also enjoy four-season gardening and have been fascinated lately with beekeeping.

Co-Tenancy Clauses Now at the Forefront of Retail Lease Negotiations

With the wobbly economy taking a toll on retailers in recent years – Borders, Circuit City, Filene’s and Linens ’N Things are some of the high-profile chains that have filed for bankruptcy since the recession started – the issue of co-tenancy clauses is bigger than ever.

The January 2012 issue of Southeast Real Estate Business examines the subject in its cover story, and Hartman Simons partner Lori E. Kilberg (pictured at left) is quoted extensively in the article.

A co-tenancy clause is a lease provision that gives a shopping-center tenant some sort of protection – perhaps reduced rent or the option to terminate its lease – if one of the center’s key tenants vacates its space. A retailer often selects a shopping center because it anticipates spillover traffic from a high-profile co-tenant. 

The brutal economic climate of the past few years has brought co-tenancy provisions to the forefront of retail lease negotiations: tenants, skittish about the financial well-being of their neighbors, want them more than ever, while property owners, desperate to hang on to other revenue streams in the event that an important tenant goes belly up, are more reluctant than ever to grant them.

“Landlords have seen what has happened with co-tenancies and centers emptying out because of the domino effect of a couple tenants leaving,” Kilberg told Southeast Real Estate Business.

A co-tenancy provision usually gives a property owner a certain amount of time to find a qualified replacement before another tenant’s relief takes effect. However, when it comes to replacing a Borders or a Circuit City, “the problem is, how many big-box tenants are still around to take those places?” Kilberg said in the article. “Depending on how stringent the qualified replacement tenant definition is, landlords can be really hard-pressed to find qualified tenants to take that space.”

For more from Kilberg and other experts on the subject, read “Clause and Effect: Co-Tenancy Provisions Pit Landlords against Retailers.”

Four on Friday: Positive CRE Stats

As 2012 gets underway, there are numerous signs that commercial real estate markets – along with the economy – are making slow but steady recoveries. While the current climate hardly resembles the boom days of 2005 and 2006, there is finally good reason to believe we are on the right track. Below are four recently released stats indicating the industry’s continuing comeback:

• The Architecture Billings Index, compiled each month by the American Institute of Architects (AIA), was 52 in December, marking the second straight month the index demonstrated growing demand for design services. Any score above 50 reflects an increase in architectural billings.

The index also was 52 in November.

While noting the Index demonstrated increasing demand in late 2010 –only to fall below the 50 mark for much of last year – AIA Chief Economist Kermit Baker said in a statement the recent scores are “very good news for the design and construction industry, and it’s entirely possible conditions will slowly continue to improve as the year progresses.”

• The National Retail Federation (NRF) says retail sales will increase by 3.4 percent – to $2.53 trillion – in 2012. While that’s lower than the 4.7 percent growth of 2011, “the retail industry will still grow at a rate faster than many other industries,” NRF said, noting economists typically are projecting the real U.S. gross domestic product to rise by 2.1 to 2.4 percent.

• The CoStar National Composite Index, which measures commercial real estate sale prices, increased for the seventh consecutive month in November 2011, when it rose by 0.6 percent when compared to the preceding month. CoStar attributed the growth to the “continued decline in the number of distressed property sales, and solid price gains in investment-grade property sales.” 

In November, prices for commercial properties were an average of 1.8 percent higher than they were in the same month in 2010.

• The U.S. office market absorbed 50.4 million square feet in 2011, up from the 18.7 million square feet it absorbed one year earlier, according to a new Cassidy Turley report. Sixty-five of the 80 metropolitan areas tracked by the firm experienced positive absorption in 2011; in 2010, only 43 of the markets did.

The national office vacancy rate has declined for the past five quarters, but it is still 200 basis points above the 20-year historical average of 14 percent. “The U.S. office sector is still a solid 12 months away from registering consistent upward movement in rents across the country,” said Kevin Thorpe, chief economist for Cassidy Turley, in a statement.  “In most metro areas, vacancy is at least 200 basis points above where it needs to be to trigger sustainable rent growth.”

Four on Friday: Marci Rossell Addresses CREW Atlanta

In her days as CNBC’s chief economist and co-host of the popular “Squawk Box” show, Marci Rossell gained a loyal following because of her lively and humorous analysis of economics and politics. On Thursday, Rossell, currently a visiting professor at DePaul University, brought that engaging style to the Cobb Energy Performing Arts Centre for CREW Atlanta’s monthly luncheon. (In the adjacent photo, Rossell, left, is pictured with Hartman Simons partner Lori E. Kilberg, the immediate past president of CREW Atlanta.)

Rossell’s nearly hour-long remarks detailed her commercial real estate and economic forecast for 2012. Below are four of the many noteworthy points she made during her talk.

• Commercial Real Estate Markets Are Improving. After bottoming out in 2009, commercial real estate experienced improved transaction volume and financing conditions in 2010 and 2011. Pricing has yet to improve, but it is always “the last phase of a [recovery] cycle,” she said.

The real estate and broader economic recoveries would be farther along if not for the disruptions caused by last year’s earthquake in Japan and the decreased consumer confidence that resulted from the federal debt-ceiling crisis. “Those two things temporarily caused a slowdown across the board,” Rossell said. “We’re just now seeing those effects wash away.”

• Single-Family REITs Are Growing. REITs that buy single-family homes and then rent them out to tenants are among the “fastest growing segments of commercial real estate,” Rossell said.

• Atlanta is at a Crossroads. The population growth that largely insulated Atlanta and much of the South from the effects of previous economic downturns has slowed, Rossell noted. During the past three years, the population of the Atlanta region has increased by just 1 percent, leaving the area more exposed to the ravages of the recent recession, she said, adding “that [percentage is] starting to look like the rest of the United States.”

As a result, Rossell said, Atlanta officials must ask themselves, “Do we become Charlotte or do we become Detroit?” Charlotte, she explained, adjusted to the decline of its manufacturing sector in the early 1990s by opening “itself up to [the] financing [sector],” while Detroit has stubbornly continued to rely on the automobile industry. 

The recent streamlining of its permitting process, which officials hope will make Atlanta a more appealing destination for business expansions and relocations, indicate the city is responding to the challenge, Rossell said.

• A Break-Up of the Euro Zone Wouldn’t Significantly Harm the U.S. Economy.  Rossell estimated there’s a 60 percent chance the euro zone will break up this year. Contrary to conventional wisdom, though, such an occurrence wouldn’t derail the U.S. economy, she said. “I believe that’s been priced into U.S. financial markets already.”

What would create a setback is an unexpected event, such as last year’s earthquake in Japan or debt-ceiling crisis. “What bumps you away from the [recovery] cycle? The unexpected things,” Rossell said. “Is there anybody here that hasn’t heard that Greece is in trouble?”

Four on Friday: Chelsea Dennis

One month after joining Hartman Simons’ litigation team, Chelsea Dennis agreed to answer FOUR questions so we could get the inside scoop on the firm’s recent addition. Dennis joined Hartman Simons from Seyfarth Shaw, LLP where she served in the commercial litigation group. She graduated from Michigan State University and holds her law degree from Emory University.

HS: What will be your primary scope of work at Hartman Simons?

CD: As a member of the litigation team, my main focus will be representing clients in confirmation actions, deficiency actions and note-suits. I will also represent creditors in both corporate and individual bankruptcy proceedings.

HS: What excites you most about working at Hartman Simons?

CD:  All of the attorneys are extremely approachable and have a wealth of experience in law and business. I am impressed with the relationships the attorneys develop with their clients and I am proud to be a part of the Hartman Simons team.  

HS:  First impression of the firm?

CD:  Everyone has been very kind and welcoming. 

HS:  Can you share a fun fact about yourself with our readers?

CD:  I was a competitive figure skater for 13 years and obtained the highest level of testing in individual freestyle figure skating.   I was also a member of Michigan State’s synchronized skating team, competing on the regional and national levels.