A lagging residential market has reversed itself a bit, but not enough to change the minds of developers who are abandoning high-end condo projects and turning them into office towers.
When 233 Broadway Owners LLC bought the Woolworth Building in 1997, it had no plans to redevelop any part of the building.
That changed a few years later, when the owners, who include Steve Witkoff and Ruben Schron, got caught up in the fervor of the residential conversion craze and contemplated transforming the top 25 floors of the building into condominiums. They drew up floor plans, began interior demolition and readied shaftways for residential elevators.
Having grown increasingly leery of making part of the building residential, they said last month they’d definitely decided to change course — envisioning high-end office spaces on the building’s upper floors.
They’re not alone.
Owners and developers like Joseph Chetrit, Joseph Moinian, Harry Macklowe and Kent Swig have followed a similar course with their projects or have sold their buildings to commercial developers. Other developers primarily focused on residential development, including the Related Companies, are now looking toward commercial development.
In the case of the Woolworth Building, the decision to keep the upper floors of the historic tower as office space makes sense in light of high construction costs, said Barry Pincus, president of Phoenix Asset Management, which handles the operation and development of the building.
“When it comes to modernizing the tower, there’s a certain amount of inherent costs that we would have to incur, no matter what,” he said. “How do you incur those costs and yet get the kind of return that would justify it from an economic point of view? The economic incentive to convert it to residential is no longer there.”
The rash of residential conversions is precisely why the office market is doing so well, said Randy Gerner of Gerner, Kronick & Valcarcel PC, who is consulting on the Woolworth Building. Not only have conversions created a spike in residential inventory, but a shortage of office space also has driven up office rents.
“So many buildings have been converted to the residential market that were formerly office buildings, especially south of Canal Street, so the commercial market is doing very well at this point and is being bolstered by the residential development not far away,” he said.
“It’s very simple,” agreed Doug Harmon, a managing director at Eastdil Secured, which recently marketed 200 Fifth Avenue, where plans for a residential conversion never came to fruition. “The office market is stronger than the residential market. You see this built-up demand for office space.”
Last month, L & L Holding Co. purchased 200 Fifth Avenue, one of two buildings in the International Toy Center complex, for a reported $500 million with intentions of keeping it an office building. Joseph Chetrit led the ownership group that sold the building. He also balked at converting the Empire Hotel on the Upper West Side into condominiums, according to sources. It will remain a hotel.
Still, Chetrit is hedging his bet in another upcoming project. At 855 Sixth Avenue at 30th Street, he is planning a 37-story, mixed-use project that will have offices on floors three through 14, and condo apartments on floors 15 through 37. Construction on the 500,000-square-foot building is slated to begin by the end of 2007.
Nearby, at 26th Street, developer Joseph Moinian is keeping as office space a project that had been floated as a residential conversion at 60 Madison Avenue. In Lower Manhattan, Kent Swig, president of Swig Burris Equities, is keeping 48 Wall Street commercial after it was also considered as a residential conversion possibility.
At 40 Worth Street, also Downtown, Newmark Knight Frank has decided against turning the top floors of the 700,000-square-foot property to condos, and it will be renovated for offices, according to published reports.
Harmon said most projects heading back to commercial use are office buildings or hotels slated for residential conversion. Buildings that were built as residential structures are typically not suitable for conversion to offices due to their small floorplates.
When it comes to ground-up development, there are few residential development sites suitable for office development, which has put a damper on any trend in that arena, said Darcy Stacom, a vice chairman of CB Richard Ellis’ investment properties institutional group.
“There aren’t that many residential development sites that work as office,” she said. “So I think a lot of developers would like to do this if they could get away with it, but I don’t think it necessarily works.”
One developer recently reported to be transforming two prominent sites into office buildings is the Related Companies. In a joint venture with Boston Properties, the developer, which has a long track record of residential projects, has assembled an Eighth Avenue building site between 45th and 46th streets that could accommodate an office tower of 1 million square feet.
Also, the Related Companies will be developing the Madison Square Garden site into office space if its plan moves forward.
“It’s so large, and it has to be built at one time, and our hope is that we are able to build it all office,” said Related chairman Stephen Ross at a recent real estate forum hosted by The Real Deal. “But I think we have the option of doing it as residential, if need be.”
These deals, along with another in which the Related Companies has contracted to pay a reported $430 million for an office building at 85 10th Avenue, have some real estate market-watchers wondering if traditionally residential developers may be turning to office development to hedge their bets.
Stacom was skeptical, saying it was probably more of a “don’t-put-all-your-eggs-in-one-basket approach to investing.”
Harmon agreed. “Related, who’s a residential developer, bought 85 10th Avenue, but they also built Time Warner Center, a mixed-use project, and they’ve owned commercial buildings before,” he said. “I don’t think there’s a trend in that. I mean, recently you have [Taconic Investment Partners], who are commercial guys getting into the residential business.”
But Rex Hakimian, vice president of the Hakimian Organization, said that it’s not that hard for a seasoned developer to change gears from residential to commercial to take advantage of a robust market.
“I think all developers have a comfort zone that they prefer to work in, but there are a lot of really good developers out there, and I think they can work both ways,” he said. “They can go commercial and residential.”
The Hakimian Organization has traditionally done both, and now the developer has changed plans at 636 11th Avenue at 46th Street, the former headquarters of Global Crossing, which was originally announced as a residential conversion but now will remain office space. It was not a soft residential market, but a lack of commercial projects in the pipeline that convinced Hakimian that it was the right move.
“The market is so strong for commercial and there’s really not much being built in the immediate future, so a developer is almost forced to, at the very least, consider a commercial opportunity for their project,” he said.
Mitchell Konsker, the broker marketing the 530,000-square-foot building for about $50 a square foot, said he anticipates it being fully leased in nine months. The most important consideration to weigh when deliberating whether to go residential or commercial is how much downtime is required, he said.
“You have to ask, how long is it going to take to lease up the property?” said Konsker, an executive vice president at Cushman & Wakefield. “How much infrastructure do you have to put into the property in order to attract a commercial tenant? And what’s the cost of that?”
Another reason developers may be backing off from residential conversions is that many of the sites, zoned manufacturing, require a lengthy rezoning process, said Gerner, whose firm had analyzed a building in the Gansevoort area for residential but recently decided it works better as commercial.
“It can take a year or a year-and-a-half or longer, so I think there’s an incentive for developers to stick with the original zoning because of the timeframe associated with changing it,” he said.
Several brokers said that financing for development of office buildings has become some of the easiest to acquire.
“The easiest to get financing for is office buildings — that’s what the bank likes the most,” said broker Asher Alcobi, founder and president of Peter Ashe Inc. “The second thing the bank likes is residential, but they’re more picky. They’re looking at the profile of the developer. They’re looking at the location. They would be tougher than they were a year or two years ago.”
Alcobi said he believes that developers will continue to switch projects from residential to office buildings or hotels whenever it’s feasible, until a glut of residential developments in the pipeline gets built.
“I would think it would be a stretch of at least three years,” he said. “It’s not that I’m predicting a slowdown in residential, it’s just that the properties that are out there, the 30,000 units, have to be absorbed to make room for new ones.”