National Investors Begin to Take Interest in Detroit Market
In 2018, the Detroit real estate market had a banner year for transactions, new developments and big headlines. Chief among these was Ford Motor Co.’s acquisition of the vacant Michigan Central Station, a major media event that attracted attention from all over the world.
Other notable news stories predominantly revolved around Quicken Loans founder Dan Gilbert and his Bedrock Real Estate Services. In 2018 alone, Bedrock delivered the 129-key Shinola Hotel, began construction on the 847,000-square-foot Monroe Blocks and laid the foundation for the 912-foot tall Hudson’s tower. The combined costs of these projects exceed $2 billion.
From a brokerage standpoint, it also was a successful year. Q10|Lutz Financial Services, a Birmingham-based commercial mortgage banking firm, had its best year on record. Similarly, Farmington Hills-based Friedman Real Estate’s investment sales division had transaction volume of a half-billion dollars, according to the firm’s manager of opportunities, Jared Friedman. Some highlights and market insights into the Great Lakes State’s commercial real estate market are below.
Downtown Detroit has received most of the notable press this cycle, in particular for the flock of millennials and young professionals who up-ended trends and brought their skinny jeans and electric scooter habits to the urban core. Most of the activity in Detroit’s downtown (the “7.2 square miles”) has been centered around rehabbing historic properties.
One prominent transaction that occurred was the acquisition of the Albert Kahn Building in New Center, just north of Midtown. Adam Lutz of Lutz Real Estate Investments and Matthew Sosin of Northern Equities Group purchased the property from Detroit-based investment firm The Platform in May 2018. The partners are renovating the former office building into 211 apartments and 70,000 square feet of retail space. Construction will begin this quarter. The 320,000-square-foot, historical building has a prominent list of former tenants, including Saks Fifth Avenue and Albert Kahn Associates.
“The location is ideal for commuters who live in the city to easily reach suburban office locations of metro Detroit, such as Southfield, Troy and Birmingham, which are within 15 minutes from the building,” says Lutz.
The property was vacant upon acquisition and the joint venture used a nonrecourse, acquisition loan from a California-based lender to execute the transaction. Like many historic renovations, the Albert Kahn’s redevelopment relies on a complex financing mix of first lien mortgage, tax abatements and historic tax credits.
As many acquisitions in this cycle have involved heavy historic rehabs, many traditional Detroit buyers like local families and private equity groups have found it tough to compete with well-funded, high net-worth individuals like Dan Gilbert, Peter Cummings and the Ilitch family. “When you’re looking at the multifamily market [in the city], the buyers who have stepped up are non-traditional groups like syndicators or high net-worth groups,” says Friedman. “The historically large owners of real estate are sitting on the sidelines. The market is being dominated by newly formed real estate entities that didn’t exist 10 to 15 years ago.”
For those not sitting on the sidelines, garden-style apartment transactions in the middle- to upper-income suburbs are typically garnering cap rates between 5.5 and 6 percent. Two recent sales included the Park Place Apartments in Northville (5.7 percent cap rate) and the Chimney Hill Apartments in West Bloomfield (5.4 percent cap rate). Downtown, many local commercial real estate professionals were hoping to learn more from the sale of the Scott at Brush Park in Midtown, but as of press time, the property was being refinanced for $50 million.
Agency financing, whether through Freddie Mac or Fannie Mae, has dominated the capital markets the past few years. Spreads as of the first week of January are typically between 190 to 220 basis points over the 10-year Treasury yield, depending on leverage.
One asset class that experienced a resurgence in activity this past year was hospitality. On Wednesday, Jan. 2, the Shinola Hotel opened to the public in downtown Detroit. The Shinola is one of Bedrock’s marquee projects and was finished in an impressive amount of time, considering the scope of the project soup to nuts took about 20 months.
The hotel has 129 guest rooms, 16,000 square feet of retail space, the San Morello restaurant (get the puttanesca) and various lounges, event/meeting spaces and a social “living room.” Rates vary between $195 and $375 per night for a typical room.
The project garnered much attention, as it paired two restored historic buildings with three new ones. In addition, the alley behind the project was totally recreated and will become an activation space with an attached beer hall reminiscent of The Standard in New York.
Detroit has been booming with boutique hotels; the Shinola was the second hotel to come online in 2018 after the Siren opened in May. Another boutique property, the Detroit Foundation Hotel, opened across from Cobo Center in 2017. Looking into 2019, the extended-stay Element by Westin will open in the former Metropolitan Building. The Metropolitan’s opening is especially impressive, considering the only extended-stay guest that this author witnessed at the formerly vacant property was a tree growing from the roof.
According to data from a recent STR report, boutique hotels have been steadily growing in terms of occupancy, average daily rate (ADR) and revenue per available room (RevPAR). Occupancy for the competitive set of some of Detroit’s boutique hotels was 75 percent through September 2018. While boutique properties are a good win for the city, there is a well-
acknowledged shortage of hotel rooms in Detroit right now, considering the demand.
Detroit visitors, tourists and conference organizers are still in need of a marquee property than can serve larger numbers for more typical travel or business customers. This demand has been reflected in Detroit metro statistical area (MSA) hospitality transactions.
Per CoStar Group, Glenmont Capital of New York purchased the Holiday Inn Express in downtown Detroit for $23 million ($96,700 per key) in April 2018; the cap rate was 9 percent. Similarly, in the suburbs, recent trades included the Sheraton Novi ($30 million or $128,000 per key and a 9.2 percent cap rate) and the Marriott Courtyard Detroit Southfield (9.1 percent cap rate).
On the refinancing side, lenders I’ve spoken with are happy to spot a 9 percent cap rate on Detroit MSA deals. Cap rates tend to be higher for hospitality properties, as they are considered more of an operating business and are often hit hard during corrections.
While transactions involving out-of-state groups dominate downtown, local hotel broker Kevin Jappaya of KJ Commercial says, “it’s still mostly local owners continuing to develop in the suburbs. The majority of these new developments have been limited-service and extended-stay brands of Hilton, Marriott and IHG. Throughout Michigan, the hospitality sector has seen a steady growth of occupancy and ADR. This has spearheaded new developments in markets that have been underserved with quality new products. [Unlike multifamily], new construction is getting expensive, but it hasn’t been a deterrent yet.”
Detroit CBD continues to power the expansion in this post-Great Recession real estate cycle. From Ford’s redevelopment of Michigan Central Station to Dan Gilbert’s endless real estate power plays, Detroit has garnered much press and critical acclaim the past decade. In turn, marquee new tenants have been signing leases in the CBD including Microsoft, Shake Shack, Stock X and Lear Corp.
The greater MSA has also seen cap rate compression and tightening vacancies, partially as a result of investors broadening their hunt for yield. While Detroit doesn’t have the out-of-state institutional interest that characterizes similar second-tier markets like Charlotte, Austin and Dallas, continued momentum will certainly bring in national interest as Detroit’s prominence grows on a domestic and international stage.
— By Steven Siegel, Senior Analyst, Q10 | Lutz Financial Services, Lutz Real Estate Investments. This article originally appeared in the February 2019 issue of Heartland Real Estate Business magazine.