Dear tenant: Here’s your hat; what’s your hurry?
Broker Eric Anton of Eastern Consolidated tells the story of a Chelsea landlord he worked with who tried everything to get a last remaining office tenant to leave his 30,000-square-foot building so he could begin to convert it to condos.
The holdout had five years to go on his lease; he’d just renovated and he wouldn’t leave. The building was closed and construction started.
“It was dusty, dirty — he had to share the elevator with construction guys. He finally gave up,” Anton said.
Gave up, that is, after accepting a $300,000 buyout.
Anton said he knew of another instance where a renter was offered $12 million to leave.
“He became a millionaire overnight,” he said.
When it comes to office conversions in Manhattan, which are still at a record level, there are many ways to get a tenant out of a building. They range from big payouts to, in rare cases, illegal harassment.
According to brokers, the cost of buyouts is seen as minor when compared to the risk of a project getting slowed down. Not all developers are ready to get into such hassles; most are thinking “profits.”
“If a developer is hot to move ahead, actually finding new space for a tenant is viewed as a transaction cost,” said broker Robert Stella, principal of Cresa Partners, who has been involved with many conversion projects over the years.
If delayed, the developer may have to face higher costs for construction, climbing interest rates for financing, or a lowered market price for apartments. Any of these factors would squeeze profits.
Andrew Oliver, managing director of investment banking firm Sonnenblick-Goldman, which arranges reconstruction financing for conversions, said buyout costs are factored into the financing.
“We factor in the buyouts, and we may set up a reserve account to buy out tenants,” said Oliver.
Lenders also look to see if the building will continue to get income from office tenants as the leases expire. A developer can pay a little less for financing if they’re still drawing off income from existing tenants during the period leading up to the actual conversion.
“When income is reduced as leases expire, debt service on the loan gets harder to pay,” Oliver said. “This is all part of the financing.”
When dealing with office tenants, there are no norms, according to Anton.
The negotiability of every point is comparable to a divorce, he said.
Much, of course, is dependent on the lease terms: if rollouts are expected in the next two years and the building will be vacated, then it might not make as much sense to buy out tenants; if there are longer leases, the developer will offer buyouts because he wants the building empty.
For developers, there is another consideration: the cost of running the building while the office tenants remain.
“It costs more money to keep services going for the period of time you’re waiting the leases out,” said Oliver.
Another scenario, if tenants want to stay, is for the developer to keep them segregated in one part of the building while working on another part.
The tenant, meanwhile, wants to replicate her existing premises — and she wants her business to survive. A tenant therefore may want to build disruption costs into her negotiations with the developer, factoring in that she’ll have notify all her customers, see how the move impacts her, and even pay for smaller items such as the cost of new advertising and new stationery.
Also, one has to throw market risk into the whole mix since markets can change, so developers and tenants try to get a fix on that variable too.
Sometimes tenants even get payouts for downtime — interruption to their business while moving — “that’s why they’re termed nuisance costs,” explained Oliver.
If the tenant has been paying below market rent, her costs to move will be higher so she’ll probably want a higher payout, brokers said. Tenants who were paying market rates probably won’t expect as much, brokers said.
Oliver thinks that most tenants don’t want to be the last to leave.
“It’s not a good place to be as the building starts to be converted. For one thing, you can make some money if you leave before your lease runs out,” he said. “Sometimes the tenant figures he’ll pay the same rent elsewhere, so [he] may just negotiate the cost of moving.”
Of course, developers can save themselves any heated negotiations or headaches by simply buying a vacant building — for which they’ll pay more, of course, said broker James Buslik of Adams & Co.
He argues that a developer who would pay $65 or $70 a foot for a building with tenants, “would pay $100 a foot, let’s say, for a vacated building.” Yet there are advantages to that, he said. “There are no obstacles if it’s vacant.”
Toy Building troubles highlight tenant angst
Sometimes moving comes with a push and a shove. Alleged strong-arm tactics occasionally come into play in getting an office tenant out of a building slated for a residential conversion.
Tenants in the Toy Building complex on Fifth Avenue and 23rd Street claim that’s what’s happening in their spaces, now owned by developer Joseph Chetrit, who plans to turn the two buildings at 200 Fifth Avenue and 1107 Broadway into condos.
Broker Robert Stella, principal of Cresa Partners, said he is advising a tenant in a Toy Center building, but that since tenants are in a lawsuit with the owner he couldn’t say much except that he termed it “harassment.”
“There’s lots of money on the line and so the tenant has brought in the support of lawyers,” he said.
“The harassment keeps getting worse,” tenants’ lawyer David Jaroslawicz told the Post about the Toy Center in late July. “He is really playing hardball.”
The matter is currently winding its way through the legal system, but Chetrit’s lawyers say there is no harassment, according to the Post.
“By and large, the allegations are inaccurate and we have been defending them, and, so far, the court has not made any rulings favorable to the tenants, which suggests what the owner has been doing is perfectly legal,” attorney Maria Beltrani told the newspaper.
Broker Grant Greenspan, a principal at Kaufman/Adler Realty, said that the more than 50 tenants remaining in the complex are trying to pull together to find a building together.
Greenspan noted that he made an attempt to try to pull the tenants together but it didn’t happen, and said lots of brokers are trying to do the same thing.
“The Flower Market [around Sixth Avenue in the high 20s] was an early attempt of trying to keep tenants together as an industry,” he said. “They [the flower sellers] moved off Sixth and condos went up. I think that movement was on the leading edge of this residential cycle.”
What developers look for in a condo conversion
Who converts? A typical conversion scenario in Manhattan might involve an older office building with 5,000- to 10,000-square-foot floorplates, smaller windows, tight column spacings and low ceilings.
Just as developers don’t convert money-producing Class A spaces into residential ones — Robert Stella, principal of Cresa Partners, notes “it doesn’t make financial sense” — global industries that take up multiple floors are not as likely to be targets of conversions either.
Andrew Oliver, managing director of investment banking firm Sonnenblick-Goldman, said older buildings generally house creative-type tenants: advertising, media, and marketing companies — and so these tend to be the kinds of firms that could be targeted more often and face conversion situations.
Broker James Buslik of Adams & Co. said that in his experience, when tenants move, they usually relocate within a five-block radius.
But that’s not always possible, said Oliver.
“In Tribeca, for example, there are fewer and fewer buildings available to relocate into, so it would be hard to find another building,” he said.
Both Buslik and Oliver believe that most companies stay in the same quality of space, or even upgrade, when they move. “It’s a business decision,” said Oliver.
Of course, as the residential market cools, it’s a possibility that fewer and fewer businesses will be affected because there won’t be the same pace of conversions.
Marvin Meltzer, principal of Meltzer/Mandl Architects, agreed that the office market is picking up steam again and that the commercial-to-residential cycle may be nearing an end.
Broker Grant Greenspan, a principal at Kaufman/Adler Realty, also said he thinks the residential conversion trend may have reached its peak.