SL Green's Mysterious Cap Rate Calculations, And Budding Israeli VoIP Operators-cum-Midtown Real Estate Investors
Today, SL Green announced a preliminary sale transaction (subject to assumable financing, an out wider than VaR exclusion loopholes) which is supposed to herald the coming of the new mid-town CRE renaissance. An ebullient SL Green CEO Marc Holliday had this to say: "This is a first, but significant step
towards the sale of interests in 485 Lexington Avenue. If ultimately
approved, the transaction would demonstrate that the Midtown Manhattan
office market continues to stand as one of the world's top locations
and that investor interest is once again on the rise." Zero Hedge is waiting with baited breath for the Holliday mirage to dissipate, while in the meantime Class A office space in 767 Fifth Avenue can be sublet for $60/sq foot.
But back to the story. The building in question is 485 Lexington, in which SLG sold a 49.5% interest which presumably translates into an implied valuation of $504.2 million. According to Bloomberg, Dan Fasulo, managing director at Real Capital Analytics couldn't find enough superlatives to describe the deal:
The deal may be a “a real wake-up call” for investors expecting further declines in Manhattan office prices, said Dan Fasulo, managing director of Real Capital Analytics. New York office values have fallen 30 percent to 50 percent since peaking in late 2007, according to FirstService Williams, a New York- based brokerage.
“The fact remains that significant demand exists for well- leased, well-located Manhattan property,” Fasulo said in an e- mail. “There is only a finite amount of supply available at current market pricing.”
Yet despite Fasulo's exuberance, Zero Hedge has some questions about the transaction. In the SLG press release, the REIT announced the transaction had an implied cap rate of 6.25%. However, a cursory look at SL Green's 10-K highlights the total revenue generated by any given of the company's office properties. And according to the below table, 485 Lexington generated an annualized rent of $48.7 million in 2008.
Now Zero Hedge's math may be rusty, but the cap rate on a property that generated $48.7 million in rent and subsequently sold for a $504.2 million valuation, indicates a cap rate of 10%, just a little off from the presented 6.25%, and roughly 2% in the wrong direction from this property being indicated to be the CRE renaissance case study that Messrs Holliday and Fasulo would like it to be. Alternatively, 6.25% cap rate on a $504.2 million property is $31.5 million. Did 485 Lexington, whose key tenants are Citi and Travellers, somehow lose 30% of its rent-based cash flow in 6 months? Which begs the question: how many other REITs are seeing comparable 30%+ decline in rents from existing core, anchor tennants in the span of less than six months.
If that is indeed the case, Zero Hedge applauds the sale of 485 Lex to a hapless buyer group led by Israeli-based Optibase. Considering that Optibase's describes itself in its "About" section as "a pioneer and market leader in advanced video over IP solutions,
specializing in video encoding, decoding and streaming for government
and law-enforcement agencies, military bases, Telco operators,
enterprise organizations and the world's leading broadcast service
providers," one would be hard-pressed to blame the VoIP company in making a massive miscalculation in its first half a billion dollar, Midtown office property purchase: after all everyone needs to diversify, even if one needs to upgrade from an abacus to a calculator first.
That all being said, if Zero Hedge is making any fatal error in said cap rate calculation, we would be happy to acknowledge our stupidity, and thus solicit reader commentary as to how a 10% property can mysteriously be sold as a 6.25% cap rated office building. In addition we will reciprocate by diversifying, and purchasing a 6.25% office building in Tel Aviv as soon as our balance sheet allows, or as soon as Wachovia is willing to finance a West Bank project at comparable terms as the SL Green deal.
And here is some additional color on the WBCMT 2007 C30 ($315MM) and MSC 2007-HQ11 ($135MM) deals. Hopefully Optibase is aware the deals are watchlisted, with the WB deal designated at 1.04x DSCR at 99.6% occupancy at March. One can hope Optibase gets a nice rebound in the market prior to 2016/17 when Travelers' and Citi's leases expire. Also, you can likely kiss your Nortel rent revenue (floor 18) goodbye and DSCR<1 hello.
And just in case there is any confusion, here is a snapshot of the reputable VoIP Optibase, unfettered by a $20MM+ market cap. Is it a coincidence that Optibase's entire cash contribution to the transaction was limited to the entire company's market cap?
Is this some evil joke SL Green is trying to pull? Who made how much money on this transaction that is supposed to herald in the golden age of the midtown CRE boom?
h/t Bankster and Ed