TAMI Real Estate Surges In Midtown
TAMI Real Estate Surges In Midtown As of recent, Google acquired the St. John’s Terminal Campus for $2.1 Billion while Harbor Group International (HGI) purchased the Black Rock building off of 6th Avenue for $760M (pictured above). Google acquired the entire development outright, while HGI purchased the entire building with ViacomCBS (seller) leasing back one-third of the 870,000 SF building on a short-term basis. HGI acquired the building at a 25% discount to the original $1 billion offer pre-Covid. Google, on the other hand, who currently leases space at St. John’s Terminal and prior, acquired $5 billion worth of buildings in Manhattan from 2017-2019, purchases the entire campus at a premium.
Alphabet is one of the largest owners of real estate in New York City with almost $50 billion worth of land and real estate. They have $136 billion in cash, cash equivalents, and short-term investments on their balance sheet, which is the largest out of any publicly traded company. Google has the capability to acquire these buildings during times of market froth (as with the case in 2017-2019) and throughout the ongoing pandemic.
Although, with a record low interest rate environment, it can be deduced that Google acquired St. John’s Terminal due to these attractive paper gains. Though the Wall Street Journal saw this as a “productive” investment, as the backdrop of low-yielding treasuries made it unfit for Google to invest in government securities. Interestingly, in January a rumor circled around Wall Street regarding Google losing a lot of money associated with the lack of productivity from their engineers working from home. This is contradicting what other tech companies have been reporting since the pandemic. But Google also sees the advantage from owning their own buildings as a function of efficiency: eliminating communication with the landlord in regard to future building upgrades.
The Real Deal mentions that the WFH/hybrid approach will only affect commodity office products, while having little to no effect on trophy and Class A, newly built offices. But Class B and C offices tell a different story. Fitch Ratings used a stress test that compared two scenarios of workers working 1.5 days from home (which is the current average) and 3 days working from home.
The test revealed that the former will lead to a 15% decline in net cash flows with the value disproportionately dropping to 45%, while the latter will drop 54% in value (both scenarios requiring less office space). This is only a stress test, as Fitch does not consider the creditworthiness of tenants, the existing leases, and the uncertainty quantifying the “average days spent working remotely and working patterns that impact both space needs and rents”; as the latter is still too early to properly forecast.
From an investment standpoint, Class A and trophy properties performed extremely well. Vornado reported 92% average occupancy in Q1 2021 and Larry Silverstein from Silverstein Properties (vocally) reported 93% average occupancy—the period was unknown, but the video was posted on LinkedIn in Q2 2021. Additionally, Transwestern reported that cap rates in Manhattan remained unchanged at 5.0% from year-end 2020 to H1 2021, while prime cap rates compressed from 4.8% to 4.6% during the same period. PwC reported a 5.33% cap rate for the entire Manhattan office market in general in Q1 2021.
On The Flip Side
By the same token, Manhattan experienced negative 15% absorption (still negative since 2019) and an increase in vacancy from 7.2% in H1 2020 to 10.5% in H1 2021; occuring while prime office asking rents dropped to 2015 levels ranging from $73-$74 PSF, down $10 PSF from its peak in 2019 (~$83 PSF).
Contradicting to the stats above, the New York Times reported Midtown and Lower Manhattan vacancy rates to be at 18.7%, and 21%, respectively, reported on July 1st. Compared to other primary markets, Los Angeles and Chicago are experiencing higher vacancies at 24.1% and 21.9% respectively. This was a result of an already struggling office market pre-pandemic.
Looking ahead, U.S. publicly traded companies are primed for real estate investment activities. In total, they hold $2.7 trillion in cash and cash equivalents. In addition, by looking at the chart (below), the spread between “buildings and land” and “total cash and short-term investments” has never been wider in the past decade. Moreover, this is not limited to FAANG companies in urban areas, but also considers companies like Amazon and Walmart increasing their real estate investments as well.
Uncertainty still persists, as today’s 10-year treasury increased to 1.53%—as of 10/5/21—while the Fed plans on tapering soon, which will in one way affect investment activity. From a market perspective, while the other borough’s struggled, Brooklyn reported positive absorption. But Brooklyn faced the same theme as the others: a decrease in average rent. The uncertainty in Brooklyn involves the continuation of growth in its innovation economy (e.g., startup companies) more prominent prior to the pandemic. A positive sign for Manhattan is the Midtown East rezoning, as most office buildings in Midtown/Midtown East are outdated with the exception of the 425 Park Avenue and One Vanderbilt buildings.
As these buildings attract credit tenants and those tenants attract top talent, it is too early to opine on if demand will follow. Furthermore, as those buildings (and Midtown in general) attract FIRE tenants such as Citadel and TD Securities, the same does not hold true for FAANG companies, which reside in Silicon Alley (Flatiron District), Hudson Square, and Hudson Yards; which are not undergoing major rezoning initiatives at the moment.
That said, the bright side of NYC as a whole is that its tenant mix has never been more diverse. As a result of this diversity, leasing activity from 2020 comprises 37% FIRE, 32% TAMI, and 13% professional services; compared to their tech and life sciences counterparts: Los Angeles and Boston, respectively. Furthermore, TAMI companies may soon take over FIRE companies in Manhattan. In 2010, the TAMI sector comprised 18.5% of office space while the FIRE sector took up 37%. Today, Manhattan office space comprises 25.1% of TAMI tenants and 29% of FIRE tenants. This treand will continue.