Commercial real estate rides out slump
By Thomas C. Palmer Jr., Globe Staff, 5/8/2003
When the Prospect Place office building in Waltham opened in 1991, near the peak of the last recession, it was 90 percent leased, but it had a major problem. The owner, Waltham-based Nelson Cos. Inc., needed at least $26 per square foot in rent to cover the costs of the new building and was getting only about $21.
Bankruptcy and reorganization followed.
Just across Waltham today, Stony Brook Office Park, a 270,000-square-foot building sitting prominently on a hill visible from Route 128, has been empty for two years. But the building is not in danger of financial collapse - largely because it is owned by Wellsford
/Whitehall Group LLC and managed by Archon Atlantic, a unit of the banking and securities firm Goldman Sachs.
Despite vacancy rates that are nearly 28 percent in the suburbs - a figure that is even worse than the 17 percent of a decade ago, when foreclosures were rampant - few owners have lost their buildings over the last year. This real estate recession is different: There has been almost no speculative overbuilding, interest rates are low, owners are often wealthier institutions, and they have less debt.
Property owners are hanging on through these rough times, and most expect to ride them out.
''No question, today the story is a lot better,'' said Jeanette I. Rice, a Dallas-based senior managing director for research of the mortgage banking firm Holliday Fenoglio Fowler LP.
During the last recession, commercial mortgage payments that were more than 60 days late peaked at 11.8 percent in June 1992. Today, according to the American Council of Life Insurers, which supplies money to the industry, the New England delinquency rate is a negligible 0.24 percent.
''You just have much deeper-pocketed individuals owning most of the premier properties, both suburban and downtown,'' said Anthony W. Biette, a vice president at Meredith & Grew/Oncor, a real estate services firm.
Rather than turning over the keys to their lenders or selling their buildings at a loss, owners are taking the temporary hit and awaiting a turnaround.
According to owners and real estate industry specialists, other huge changes in the landscape have helped prevent the current slump - with office rents dropping by half since their peak in 2000 - from bringing on the financial bloodbath of a decade ago.
Consider:
Owners owe less money on their properties. ''Lending is done a lot more conservatively than it was,'' said David Epstein, president of the Abbey Group, a Boston-based real estate investment company. Leading up to the last recession, ''You had banks writing loans at 100 percent of development cost,'' he said, adding that, today, loans for more than 75 percent of the value of the property are rare.
Interest rates are at historic lows, allowing even those owners with larger amounts of debt to get by. ''The biggest difference between this recession and the last one is by far the tighter lending practices,'' which were a reaction to the abuses in the savings and loan crisis of the 1980s, said Jerry Crute Jr., associate director of research at the American Council of Life Insurers.
Bill Hassett, until recently chief executive of the Nelson Cos., which still owns Prospect Place in Waltham, said high interest rates in the early '90s made the difference between survival and bankruptcy.
''At our worst time, we were never getting less than a 7 percent return, which sounds good these days,'' he said. ''But when you're paying 9 percent on your debt, it's not good enough. A 30 percent vacancy rate that was croaking people in the late '80s and early '90s isn't croaking people today.''
Also, this time around buildings were not thrown up speculatively, or without any immediate prospect of having a tenant, as they were during the late 1980s. Instead, the current space glut is driven largely by dot-coms that have disappeared and other companies that signed up for space that they eventually didn't need. It's the tenants that are suffering more, not the landlords.
In one dramatic example in Cambridge in 2001, Vertex Pharmaceuticals Inc. signed up for a long lease in a brand-new 270,000-square-foot Lyme Properties LLC building in Kendall Square. Vertex soon after expanded by buying a San Diego company, so it is now trying to figure out what to do with a Cambridge building it no longer needs. Vertex was also obligated to spend the money to ''build out'' the interior space, putting its total exposure at about $300 million.
Then there are the REITs, or real-estate investment trusts, and other big, financially secure institutional investors, which are playing a bigger role than in the past.
''Ten years ago somebody would say `REIT', and you'd say, `What?','' said John T. Kerrigan Jr., senior vice president at Grubb & Ellis, a commercial real-estate advisory company. ''They came on with public financing in just a major way - amazing. No one predicted that.''
Those big institutions - rather than the local or family companies that owned office buildings 10 years ago, but lacked the deep financial backing - are in charge of places like Waltham's Stony Brook Office Park.
''This is institutional money - it has staying power,'' said Bill Rand, who heads up the Boston office for Archon Atlantic, the subsidiary of Goldman Sachs that manages about 25 buildings in the Boston area, including Stony Brook. For Rand, who worked for Saracen Cos. Inc., the Newton-based developer that built Stony Brook, the '90s were a wild ride.
Early in the decade, while other buildings' empty space was increasing, Stony Brook had the good fortune to have a small but fast-growing tenant, Parametric Technologies Corp. Originally in 18,000 square feet, Parametric eventually grew to occupy all the space in the building, as other tenants' leases expired.
But when Parametric, now known as PTC, needed even more space and moved to Needham, Stony Brook was left with no tenants in 2001, at a time vacancy rates were again rising throughout the area. Rand has hired Spaulding & Slye Colliers to help with leasing efforts. ''We're close to signing our first letter of intent'' for a lease, he said.
Because companies such as Archon are not forced to sell properties in difficult times selling prices have remained high.
''The ownership of commercial real estate in 2003 is in substantially stronger hands from an equity standpoint than the same universe was in the early '90s, when it was two doctors and their accountant,'' said Richard W. Reynolds, a principal at Spaulding & Slye Colliers. ''That includes REITS, pension funds, opportunity funds from Wall Street, and larger, stronger national companies that are not like the mom-and-pop owners of 10-12 years ago.''
Rice, of Holliday Fenoglio Fowler LP, said the depths of a decade ago won't be revisited. ''Delinquency rates will go up,'' she said, ''but they're not going up to anywhere near what they were 10 years ago.''
Thomas C. Palmer Jr. can be reached at tpalmer@globe.com.
This story ran on page E1 of the Boston Globe on 5/8/2003.
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