Manhattan developers are planning the city’s biggest decade of office construction since the 1980s, betting on rising demand for modern space even with tenants unsigned and the availability of financing more limited.
More than 25 million square feet (2.3 million square meters) of projects are under construction or may be built in the next nine years, according to brokerage Cassidy Turley. Developers including Related Cos. and real estate investment trusts Boston Properties Inc. (BXP) and Vornado Realty Trust (VNO) are in talks with potential tenants as they step up plans for towers. Some, including Vornado, may proceed without lease agreements.
Builders and brokers say Manhattan is ready for the boom, citing corporate appetite for the latest in comfort, energy efficiency and technological capability in an area where more than 60 percent of buildings are at least half a century old. The risks for developers are that they are competing for tenants and may have to put up more money as banks are reluctant to fund new projects just three years after the credit crash.
“The developers anticipate improvement in the fundamentals that we haven’t seen yet,” said Sam Chandan, adjunct professor at the Wharton School of the University of Pennsylvania and chief economist at real estate research firm Real Capital Analytics Inc. “The lenders that could support new construction remain circumspect. It’s fair to say that developers will have to work creatively with lenders to line up financing.”
Vacancy Rate Improving
The Manhattan office-vacancy rate fell to 12.2 percent as of April 30, after peaking at 13.5 percent in March of last year, according to New York-based Cassidy Turley. That compares with a low of 6.7 percent in September 2007. Class A rents -- rates at the highest-quality buildings that would be most similar to the new towers -- rose for a seventh month in April to $59.65 a square foot. The record was $88.37 in May 2008.
Including buildings completed last year, Manhattan could see about 28.5 million square feet of new office space in this decade. Only 7.4 million square feet was built in the 1990s, and 18.5 million in the 2000s, according to Cassidy Turley. The 1980s had 47.2 million square feet of offices built.
Manhattan’s 450 million square feet of offices makes it the biggest U.S. market.
“We’re getting to the point where new construction is logical and the developers are ready to come out of the ground,” said Robert Sammons, Cassidy Turley’s vice president of research. Property companies that stockpiled money during the recession now want to be “ahead of the curve,” he said.
Restarting Stalled Project
Boston Properties (BP), the largest U.S. office REIT, may be the first to start building, with construction of a stalled project poised to start in the fourth quarter. The Boston-based company is in the final stages of negotiations with law firm Morrison & Foerster LLP to anchor the planned 1 million-square-foot tower at Eighth Avenue and West 55th Street, said a person with knowledge of the discussions. An agreement may be reached within weeks, said the person, who asked not to be named because the talks are private.
“We are working on the marshalling of resources to be in a position to start the project,” Boston Properties President Douglas Linde said in a telephone interview. “There’s been a fundamental shift in people’s outlooks on where they’re going and where they want to be, and the city of New York’s availability of high-quality real estate.”
Linde declined to comment on discussions with Morrison or any other potential tenant. On a May 3 conference call, he said the company was in “active” negotiations with an unnamed tenant who would take about 20 percent of the building.
$1 Billion Project
The company said it has invested about $480 million in the roughly $1 billion project, which was suspended in 2009 after another law firm withdrew as an anchor tenant. Foundations and below-the-street concourse floors are already in place, Linde said in the interview. The steel is sitting in a yard in South Carolina, and the makings of metal frames for the curtain wall are in storage outside of Boston, he said.
Manhattan’s Far West Side, the area roughly between Pennsylvania Station and the Hudson River, may be one of the biggest areas for development as Related and Brookfield Office Properties (BPO) take the first steps to attract tenants and start construction on a potential 10 million square feet of offices. Penn Station is the busiest U.S. commuter rail hub, with its 590,000 passengers a day approximating the population of Milwaukee.
Much of the construction there will involve building platforms over railroad tracks throughout that area.
Financing new development may not be easy. Across the U.S., there were only a few large office-construction loans in the first quarter, Chandan said. One was for the 600,000-square-foot 600 Brickell Ave. project in Miami, which got a $130 million loan from Canyon Capital Realty Advisors LLC in February.
Construction loans have fared the worst among all types of commercial real estate loans, according to Richard Parkus, a real estate debt analyst at Morgan Stanley in New York. Ninety-day delinquency rates peaked close to 19 percent, and have dropped “only minimally” since then, he said in an e-mail.
Commercial construction loans outstanding in the U.S. have fallen each quarter since early 2009, according to the Federal Deposit Insurance Corp. The fourth-quarter total of $163.2 billion is a little more than half the $297.9 billion it was when lending peaked in the first quarter of 2009. Those figures include retail, industrial and hotel loans as well as offices.
Spending on U.S. office construction fell to $24.4 billion in 2010, down 36 percent from 2009, and 56 percent from the peak year of 2008, according to the Census Bureau.
Prudential Financial Inc. (PRU), an investor in about $60 billion of U.S. property since 1999, is concentrating on funding apartment construction, and isn’t yet seeking to finance offices, said Kevin Smith, senior portfolio manager at Prudential Real Estate Investors, the property-investment unit of the Newark, New Jersey-based life insurer.
Prudential provided most of the equity on SJP Properties Inc.’s 11 Times Square, a 1.1 million-square-foot tower at Eighth Avenue and 42nd Street that remains more than half unrented more than a year after its completion.
These days, Prudential prefers buildings “that are up and leased,” Smith said. “Talking about financing new construction, that’s a whole different kettle of fish.”
Rents in New York haven’t risen enough yet to entice banks to write new loans, said Greg Reimers, northeast market manager for real estate banking at New York-based JPMorgan Chase & Co. (JPM), the second-largest U.S. bank by assets.
“If a banker gets a call from someone who owns land, the first question he’s going to ask is, ‘Who’s your tenant?’” Reimers said. “Twenty percent pre-leased for an office building is not going to be sufficient to get a non-recourse construction loan. Twenty percent leased is another way of saying 80 percent vacant.”
Publicly traded REITs such as Boston Properties, having accumulated cash and raised equity during the worst months of the recession, are in a better position than private developers to self-finance their building pipelines, Chandan said.
Boston Properties is prepared to use cash and access to unsecured credit to start its 55th Street project, Linde said. In its most recent quarterly report, the company said it had $747.3 million of cash and equivalents, and $1 billion of undrawn credit.
“I was with a major New York City bank last week, and they encouraged us to talk to them about doing a construction loan, if we wanted to go in that direction,” Linde said. “This was an inbound call to me, not an outbound call to them. I feel very comfortable with my liquidity. I feel comfortable with my availability of future cash to build the building.”
Vornado has two Midtown projects in the works. One is 15 Penn Plaza, a 2.8 million-square-foot tower planned for the site of the Hotel Pennsylvania, across Seventh Avenue from Penn Station. Anthony Malkin, operator of the Empire State Building, last year fought to stop the building, saying the 1,215-foot skyscraper was too close to his and would mar the view. The New York City Council approved the project anyway.
Vornado Chairman Steven Roth said in an April 15 letter to investors that the company won’t proceed on that tower without a major tenant.
He said at a luncheon last month that the other project, a 1.5 million-square-foot tower that would be constructed on top of the Port Authority Bus Terminal at 42nd Street and Eighth Avenue, may start without a signed tenant, a practice known as building “on spec.”
An unidentified Chinese investor agreed to put $500 million to $700 million into the project, Crain’s New York Business reported in March. The bus terminal was built in 1950 with footings strong enough to support a skyscraper.
Roanne Kulakoff, a spokeswoman for New York-based Vornado, declined to comment.
Roth isn’t the only New York developer considering building on spec. Edward Minskoff, who as an executive of now-defunct Olympia & York Developments helped build downtown’s World Financial Center, said he will erect a 413,000-square-foot, 13-story office building at 51 Astor Place, across from the Cooper Union engineering school, from whom he leases the ground.
“There’s 26 million square feet of leases rolling in 2013 and this building will be operational April of 2013,” he said. “There are no blocks of space in any brand-new, A-plus building that are going to be available in that same time frame.”
Minskoff declined to give the cost of the building or detail its financing.
“We’ll go conventional financing and my personal equity,” he said. “It’ll be one of the big major banks that are sophisticated and understand how to finance construction loans.”
Related, led by billionaire Stephen Ross, has been marketing the $3 billion-plus first phase of the Hudson Yards development. The company a year ago lined up the Oxford Properties, a real estate investment unit of Ontario Municipal Employees Retirement System, or OMERS, to serve as an equity partner in the 26-acre development, Manhattan’s largest unbuilt space. Related has declined to say how much the Canadian pension fund is investing.
It’s “always been our expectation” that Related and its partners would raise about $2 billion of equity for the entire $12 billion project, said Jay Cross, president of the Related unit overseeing the site. Related and Oxford have said they could start the first phase of as much as 4.5 million square feet as early as next year should tenant commitments and accompanying construction financing be secured.
They intend to seek additional equity partners for future phases of the 26-acre site.
The firm has held talks with Time Warner Inc. (TWX) to be a tenant, according to a person with knowledge of the discussions. Related built the media company’s current home, Time Warner Center, at Midtown’s Columbus Circle. Others who have inquired about anchoring the complex include leather-goods maker Coach Inc., while department-store chain Nordstrom Inc. (JWN) has been considering a retail location, said the person, who asked not to be identified because the discussions are private.
Calls to Keith Cocozza, a Time Warner spokesman, and Colin Johnson, a Nordstrom spokesman, weren’t immediately returned. Andrea Shaw Resnick, vice president for investor relations at Coach, declined to comment.
Related is talking to about a dozen potential large-scale users, said Joanna Rose, a spokeswoman for the developer. Ross said last month at a luncheon that he expected to have about 3.5 million square feet of leasing done by the end of the year.
Brookfield, owner of downtown’s World Financial Center, is seeking to start its 5.4 million-square-foot Manhattan West project a block east of the Hudson Yards site. The New York-based company shut down preliminary work on the project in 2008. The company envisions two towers, one of them exceeding 1,200 feet in height.
“We could have the first tower up and a tenant in by 2015,” Chief Executive Officer Richard Clark said on a conference call last month. “Our hope is as we turn the year, we’ll be able to get out there and start to do the work.”
Melissa Coley, a Brookfield spokeswoman, declined to comment beyond Clark’s public statements.
About 64 percent of Manhattan’s office buildings are more than 50 years old, according to CB Richard Ellis Group Inc. That means most are incapable of satisfying the desires of financial, media and technology industries for wide-open, high-ceilinged space with the latest environmentally conscious technology, said Lawrence Longua, director of the REIT Center at New York University’s Schack Institute of Real Estate.
If building gets ahead of demand or the economic recovery stalls, rents may fall and vacancies may increase, said Stuart Saft, a real estate attorney with Dewey & LeBoeuf LLP in New York. Without an influx of outside renters, tenants may simply shift from existing offices to newer ones, as has happened in previous construction booms.
“Businesses want the newest buildings,” Saft said. “The problem is each time you build a building and seduce people over to it, then you empty out a Class A building, potentially making it a B building if you don’t upgrade it.”
Many companies also have been cutting back on space due to telecommuting and shifting employees from offices and cubicles to open floors, he said.
After developer Gary Barnett’s 750,000-square-foot International Gem Tower in the Diamond District opens next year, a new building isn’t scheduled to be finished until 2013, when Minskoff’s project and World Trade Center towers One and Four are completed, according to Cassidy Turley.
Developers stretching to make office projects happen are “making a good bet,” said Douglas Hercher, who brokers capital for commercial-property deals as executive vice president and principal for Cushman & Wakefield Sonnenblick Goldman.
“They’re looking at it and saying that, given where land prices are today and construction costs are today, we can build cheaper than we can buy,” he said. “And we’ll be well-positioned if we build brand new state-of-the-art office in great locations. When those buildings open in three to four years, we’ll be sitting pretty.”
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