In 2008, the credit crisis had gripped the world and in particular, the Midwest. Lenders, whether CMBS or life insurance companies, had put large “X’s” through Michigan on their maps. And Detroit? South of 8 Mile, you couldn’t get a deal done.
Enter entrepreneur businessman Dan Gilbert. Inspired by an intern spurning his then Livonia-based Quicken Loans for a more urban, walkable environment in Chicago, Gilbert made the bold decision to move his entire operation to downtown Detroit.
Steven Siegel, Q10|Lutz Financial Services, Lutz Real Estate Investments
Now in 2018, Ford, GM and Chrysler (and various suppliers) are humming, resulting in a decade-low statewide unemployment rate of 4.8 percent.
The central business district (CBD) and Midtown Detroit multifamily occupancy rates are at 95 percent, with office just a touch under that, according to CoStar Group. And in downtown Detroit, which many in the metro area once regarded as a quasi-War Zone, vacant buildings are selling for millions of dollars and millennials in yoga pants dot the streets.
Detroit’s resurgence since 2008 has earned it the nickname of “America’s Great Comeback City,” with no better metaphor than Ford Motor Co. recently buying one of the world’s great eyesores, Michigan Central Station, the former train station. However, the city’s renaissance is also a story of the capital markets return to the region. Today, lenders are erasing those “X’s” and helping fuel a surge in investment.
CBD office occupancy rises
When it comes to downtown, one is never far from the specter of Gilbert, the catalyst for Detroit’s rebirth. Now, with CBD office occupancy rates approaching mid-90 percent levels and gross office rents per square feet in the mid to upper $20’s, more space is needed.
Gilbert’s real estate development firm, Bedrock, is developing four marquee projects valued worth north of $2 billion, including the $900 million Hudson Site redevelopment. Once complete, the 800-foot tower will have more than 1 million square feet of residential, office and retail space (and the city’s first observation deck).
With construction costs escalating due to a limited labor supply and elevated hard costs, Bedrock secured a $615 million Michigan tax incentive package essential for ensuring the projects move forward.
Indeed, the majority of projects in downtown Detroit receive some form of gap financing subsidy, whether it’s a Brownfield Tax Increment Financing, Conservation Reserve Program loan (usually at 1 to 2 percent) or Public Act 210, which encourages the rehabilitation of commercial property by abating the property taxes generated from new investment for a period up to 10 years.
One recent refinance downtown was REDICO’s One Kennedy Square, home to several prominent tenants including Ernst & Young and The Walbridge Group. According to data from Real Capital Analytics, the property was refinanced at a 7.8 percent cap rate.
In Detroit’s Gold Coast, the December 2017 sale of the 400-unit Jeffersonian apartment building for a sub-6 percent cap rate garnered much press. The buyers secured financing through Jill Jasinski of Q10|Lutz Financial Services, who sourced an aggressive bridge lender from Manhattan that provided an 80 percent loan-to-cost (LTC), non-recourse loan for the acquisition. For Detroit multifamily, spreads on value-add transactions like these tend to be at 300 to 400 basis points over the 30-day libor rate.
A quick QLine light rail ride to the north is the New Center neighborhood, where Peter Cummings and Dietrich Knoer’s The Platform have branched out beyond its landmark Fisher Building. The firm is developing several notable projects, including the $30 million Cass and York condo development and The Boulevard, a 300-unit multifamily development project.
The Platform recently sold the Albert Kahn Building to a joint venture between Adam Lutz’s Lutz Real Estate Investments and Matt Sosin’s Northern Equities. The group sourced a non-recourse construction loan from a West Coast-based lender.
In the suburbs
Future real estate connoisseurs may one day cite the Urban Land Institute Spring Meeting in Detroit as the key turning point in bringing institutional capital to metro Detroit. During the three-day commercial real estate conference, many industry professionals surveyed the market for the first time. It was critical to get “boots on the ground” here, as many real estate professionals came away from the city with a new narrative on urban infill, improving fundamentals, and of course, a terrific opportunity to make money.
Like the rest of the nation, multifamily continues to set the precedent for the Detroit market. Southeast Michigan cap rates are at 6.5 percent or lower. A notable recent sale includes The Franklin & 12 North Apartments, which sold for a combined $30.6 million ($81,000 per unit) at a 6.5 percent cap rate. A team from Income Property Organization brokered the sale.
Freddie Mac and Fannie Mae DUS lenders are proving particularly popular via the ability to secure 30/30 financing and up to five years of interest only with rates hovering at 5 percent. Life insurance is still a popular route for borrowers as well. Dave Sibbold of Berkadia says his group did a $250 million multifamily portfolio with one life insurance company in the past 12 months.
New construction has also picked up in the market, with overall vacancy rates at 5 percent or lower. On low leverage (sub-60 percent LTC) non-recourse multifamily projects, borrowers can expect to pay 30-day libor plus 350 to 380 basis points. For full leverage (75 percent), quotes can hover anywhere between 800 to 900 basis points over the 30-day libor.
Industrial is one of the metro area’s best sectors, with vacancy rates between 3 and 5 percent. Due to compressed cap rates and vacancies, new construction has taken hold. Well-known local developers like Dembs Development and General Development are building high-tech office/light industrial hubs for automotive suppliers like GKN or Recaro, particularly in Auburn Hills.
Office properties in suburban Detroit are also seeing increased investment appetite. Properties like the Arboreteum Office Park in Farmington Hills or Stonebridge in Bloomfield Hills are trading at or below 8 percent yields.
Several recent smaller office deals transacted saw spreads of 190 to 205 basis points over the 10-year treasury on a non-recourse basis, with no reserves, borrower friendly pre-payments and 30-year amortizations.
Final thoughts
Recently, I had a conversation with an investment sales broker who couldn’t understand what Gilbert’s exit strategy downtown would be. From my perspective, as a 28-year commercial real estate professional living downtown and working in the suburbs, it is obvious. There is no exit strategy.
The CBD’s rebirth and the continued emergence of the neighborhoods around it has resulted in a substantial increase in values that can make Gilbert and other entrepreneurs who took risks on the city multi-generational wealthy. For Gilbert in particular, where else in the world can one company control over 100 buildings in a major city’s CBD? This is capitalism and urban revitalization on a scale that would make the Medici family jealous.
Several concerns still reign, whether it’s the quality of public education (particularly in neighborhoods outside the CBD) or the overreliance on a few key families as the economic engine of Detroit’s renaissance. Yet the opportunity to sell for substantial returns, or to lever down progressively, gives Detroit investors a once-in-a-lifetime opportunity to not only earn impressive yields, but a chance to stabilize a city and region.
— By Steven Siegel, Senior Analyst, Q10|Lutz Financial Services, Lutz Real Estate Investments. This article originally appeared in the July 2018 issue of Heartland Real Estate Business magazine.