There’s still an overwhelming amount of foreign capital that wants to get into the United States, and investors from all countries are clamoring to plant a flag here.
But prices are getting higher and cap rates lower, and in New York City, it’s hard to find product to buy.
Real estate giants recently joined BakerHostetler and EisnerAmper for a real estate roundtable to discuss what they’re seeing.
There’s a perceived idea—and it’s a reality—that your money is safer in cities like New York, San Francisco, Miami, and Los Angeles, said DDG CEO Joseph McMillan, who was joined by RXR president and CFO Michael Maturo, Invesco senior director Todd Bassen, BakerHostetler partner Dennis Russo, and EisnerAmper partner Kenneth Weissenberg at BakerHostetler’s Rockefeller Plaza office.
“Even if there’s market risk, you know in the end that your building is going to be there,” McMillan said.
Canadian investors have backed off a bit, Maturo reported, as the currency rate has made them look at investment reallocation. But sovereign wealth funds are still underinvested in the US, and money is pouring in from places like China, Japan, and Korea into gateway cities.
“The dilemma, to a large extent, is that they want yield,” Bassen said. “But it’s hard to provide eight caps and stability in gateway markets.”
Another impediment: There’s just not that much for sale, particularly in New York City.
Maturo said that he recently heard an interesting statistic from a broker that 73 percent of all office buildings in Manhattan are owned by long-term—and potentially never-sell—investors.
“And sovereign wealth fund money is very, very long term,” he said. “It basically wants to buy and hold forever, and that’s creating an interesting dynamic in in terms of who can and cannot partner up.”
There is tension in transactions, especially opportunistic and value deals. “It’s short-term ownership versus long-term ownership,” Bassen said. Invesco’s approach: allowing its JV partners to have the ability to take Invesco out after stabilization.
“When we know upfront that the sponsor really wants to hold the asset forever, many times what we try to do is marry that transaction with longer-term capital,” he said.
“And we’ll structure the transaction in a hybrid approach [with a] promote, and after stabilization, we’ll revalue the property to trigger that promote and allow the sponsor to take the capital out or rejigger the ownership interests.”
But the deal depends on whom the foreign investors are—some are more focused on governance or exit rights, while others are more fixated on owning an asset forever, the panelists said.
Some Chinese investors, in particular, are more interested in co-development rights and participating in management; they’re getting in early and involving themselves in every aspect of a deal.
“They’d rather form straight-up JVs where they actually participate and try to learn the business,” Maturo said.
RXR has brought Asian investors into 75 Rockefeller Plaza and 450 Lexington Ave., and it looks like the same could happen at 230 Park Ave. It also has a Chinese partner in a residential project it has in Glen Cove, Long Island.
“They’re bringing people here just to sit with us and learn how to develop in these markets,” he continued. “They’re actually helping us with the sales and financing, so they’re really diving in more so than just writing checks, which is what you see more of with Canadian, European, and South American investors.”
Overall, Russo said that sponsors are getting more successful in negotiating more say in management as the result of their controlling the deal. “The money knows how tough it is to find transactions these days.”
McMillan said that his firm has been approached by various Chinese investment groups about doing something programmatic with the company, both in New York in San Francisco, two of the most attractive markets to them.
“In most cases, they want to put someone in our office and physically shadow our team—basically have local desks where they’re side by side,” he said. The upside is that you have a locked-in partner for the next five years, he continued, but after that, what they really want is to be able to do it without you. “That’s the cost if you go that route.”
Weissenberg said EisnerAmper is excited to be working with several clients involved in the redevelopment of the Wall Street area. “The infusion of foreign capital is spurring development throughout the New York market.”
Structures the real estate companies are using with foreign investors include private REITs and blocker entities. “With FIRPTA, most of the foreign investors can’t invest more than 49% and maintain their tax status,” said Bassen, who uses the private REIT route. “Typically, they’ll invest under 49% interest, and then the challenge is to marry the 49% foreign investor with a 51% domestic investor or another 49% foreign investor, in which case—and we’ve done it on a few occasions with our assets—the firm will put up a two percent GP interest to get to the 100 percent.”
All of the foreign capital that has come into the U.S. over the last five years means that most of the structures are already in place and have become more standard, the panelists said—the only difference is the level of protection that different foreign investors want: Some want REITS, some want blockers, and others want blocker entities that are just by themselves as opposed to sharing with other foreign investors.
“It’s just the degrees of tax risk these foreign entities are willing to take,” Maturo explained.
However, there’s a great deal of tax work and reporting that needs to be done—a benefit for lawyers and accountants. Although it’s not complex, it’s tedious, the panelists said.