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It Was The Year Of 'Let's Make A Deal'
By John Holusha

Copyright 1998 The New York Times Company
The New York Times
January 11, 1998, Sunday, Late Edition - Final

A FEW years ago real estate executives were coining slogans like "Stay alive till 95" and "Find something to do until 20-02" that expressed the difficulty of operating in a market that was sluggish at best. Today, nobody has the time to think up clever sayings. They are too busy making deals.

"It's been a phenomenal year, the best we have seen on the service side of the business since 1989," said Steven A. Swerdlow, executive vice president in charge of CB Commercial's New York office. Prime space in midtown office towers, Mr. Swerdlow said, has all but disappeared. "In the top 65 buildings," he said, "we are down to a 3 percent vacancy rate, which we have not seen since 1981."

The prosperity has been widespread. The downtown Manhattan office market, considered so feeble that a special city incentive program was designed for it in 1995, was host to the five biggest leasing deals of the year. One such deal, the Goldman, Sachs lease at 10 Hanover Square, involved a building that had been considered for conversion to residential use. As a result, many executives expect to see the pace of conversion slow as landlords seek to market their properties as offices.

Out in the suburbs, speculative office building is already under way in northern New Jersey, and local specialists say they expect one or more projects to get under way in Stamford, Conn., this year.

A new office tower is rising between 42d and 43d Streets along Broadway, and another Times Square building is expected at the northwest corner of 42d and Broadway for the Reuters news organization. Bear, Stearns is making plans to put up a new headquarters on the east blockfront of Madison Avenue between 46th and 47th Street now occupied by the long-vacant 383 Madison.

These activities are renewing interest in other possible development sites, some well known and others, such as one on Third Avenue between 43d and 44th Streets using the air rights over St. Agnes Roman Catholic Church, that have been little discussed until recently.

The Columbus Circle site now occupied by the Coliseum and the site now used as a parking lot on the half block on Seventh Avenue between 49th and 50th Streets are probably the most prominent uncommitted sites, along with two remaining Times Square properties that are being marketed by their owner, the Prudential Insurance Company.

"Those Times Square parcels will be developed within a year," said Jeffrey Katz, the president of Sherwood Equities, which manages the building at 1 Times Square. A group led by Mr. Katz sold the triangular building where the ball drops on New Year's Eve for a record $1,100 a square foot last year.

A developer is expected to be designated for the Columbus Circle location from a list that includes Millennium Partners, Tishman-Speyer Properties and a partnership involving Bruce C. Ratner, Donald Brodsky and Peter M. Lehrer. Officials of the Rockefeller Group, which controls the Seventh Avenue plot, invariably referred to as "Rock West," say they expect to sign an anchor tenant in the first half of this year for a new building they would develop.

Other possible office building sites include 310 Madison, at the southwest corner of 42d Street. Researchers at CB Commercial found that the owner, Harry Macklowe, can empty the building if it is scheduled for demolition, so he could move quickly if the right tenant came along.

The Durst family, which is building the 1.6 million-square-foot tower designated 4 Times Square, also controls property to the east, although it is missing a critical L-shaped parcel at the corner of Avenue of the Americas and 42d Street. Douglas Durst, the president of the company, said he had not given up on acquiring the parcel, but said that if unsuccessful, he would go ahead with a midblock building sometime after 2000.

A few blocks to the east, the church of St. Agnes, now being rebuilt after a 1992 fire, occupies a site in the middle of the block between 43d and 44th Streets and Lexington and Third Avenues. To the west is an office tower designated 425 Lexington. To the east is a group of low-rise houses that developers have been eyeing for years as the site of an office tower. Adding the air rights from the church could improve the economics of such a project, if the land can be assembled, CB Commercial's researchers reported.

It may take years for these possible projects to be built. Some, like the Coliseum, appear likely to go ahead quickly, while others will require a lot more things to fall into place before the start of any building. Among them are development on the Ninth Avenue side of the Post Office building at 34th Street and over the Port Authority building at 42d Street between Eighth and Ninth Avenues. But the fact that people are blowing the dust off old plans and figuring out ways to get them done is an indication of how sharply the market has turned in the last few years and how executive mindsets have shifted from trying to stay afloat to changing the skyline again.

Here is how the different sectors of the commercial real estate market performed last year, and the outlook for 1998.

Midtown Offices
Lower Vacancy Rate And Higher Rents

Vacancy rates in Class A office buildings in midtown fell to 8.5 percent in December, compared to almost 12 percent a year earlier, while average asking rents, including both direct rentals and sublets, increased to $40.68 from $38.82, according to figures compiled by RELocate, a real estate information company.

These averages understate the kind of prices being paid by tenants who want the best locations in the Plaza District, generally defined as the area bounded by 45th and 59th Streets and Third and Fifth Avenues.

"We are seeing rentals in the $50 to $60 per square foot range, with some reaching as high as $70," said Robert Emden, an executive managing director of Grubb & Ellis New York. In addition, he said, the period of free rent for a new tenant while the interior construction work is performed was no more than six months now, and the amount of construction a landlord is willing to do is no more than $35 to $40 a square foot, compared to 18 months of free rent and $60 a square foot in construction allowances when tenants had the upper hand.

He said that since no new office space had been built for years, demand was outrunning supply. "It is a struggle to come up with space," he said. "You have to get to it before it hits the market."

High prices in the prime midtown core will drive tenants to places they might not have considered before, executives say. "People will move when rates get high," said James D. Kuhn, the president of Newmark & Company Real Estate. "We saw that happen in the 70's and 80's when rates peaked."

Mr. Kuhn said office users would warm to the charms of the Jersey City waterfront, Metrotech in Brooklyn, and Stamford as the differential in rental rates grew. The prices will also effect the pattern of development in Manhattan as well, he said, citing the recent activities of owners, including real estate investment trusts such as Vornado Realty Trust.

"Vornado is paying about $420 million for One Penn Plaza, which would have been unheard of not too long ago," Mr. Kuhn said. He said the price implied that the New Jersey-based REIT felt it could get rents in the range of $30 to $40 a square foot.

He said Vornado's other investments in the area near 34th Street and Eighth Avenue showed it was confident the area would attract a higher caliber of tenant than it does now, and pricier retail stores. "Penn Plaza is going to take its place alongside Times Square and Grand Central" as hubs of activity in the city, Mr. Kuhn said.

Of course, good news for owners can be bad news for tenants. "In this market, owners can get away with murder," said James Meiskin, the president of Plymouth Partners, which represents tenants. "It is much more difficult now for tenants, and you are going to see companies leave the city."

Downtown Offices
Rise in Leasing May Cut Conversions

Like a dozen or so older office buildings near the lower tip of Manhattan thought to be no longer suitable for use as modern office space, the structure at 10 Hanover Square was scheduled for conversion to residential use. Before the conversion could begin, the big financial services firm of Goldman, Sachs reached an agreement to lease all 522,089 square feet of it.

After years in the doldrums, office leasing in the downtown area picked up sharply last year, prompting some owners to reconsider plans for conversions.

Michael T. Cohen, the president of Williams Real Estate, said the reason for the quick comeback of Downtown is that alternatives of the past are unavailable. "In the 80's when pressure built up in midtown, 50 million square feet of light assembly space in Midtown South was converted to office," he said. "Now there is no Midtown South to convert, so Downtown is the bargain overflow area. But it is going to run out."

Six of the biggest leasing transactions of the year took place below Canal Street, including the decision by Standard & Poor's to lease over 930,000 square feet at 55 Water Street.

"Standard & Poor's made a commitment, and that was a catalyst transaction," said Frank A. Cento, a senior director in Cushman & Wakefield's downtown office. "That made other companies realize they had to make commitments as well, and it kicked off a lot of activity."

That activity included Merrill Lynch's purchasing of a 760,000-square-foot building at 222 Broadway (at Fulton Street), the city's Human Resources Administration taking 483,000 square feet at 180 Water Street and, at year's end, Empire Blue Cross-Blue Shield signing for 449,000 square feet at 1 World Trade Center.

Despite the flurry of leasing activity, some executives note that downtown is still based on financial services, and say that a sharp correction in the stock market could produce plenty of empty space quickly again, as it has in the past. "Downtown is a single-industry town," said Anthony E. Malkin, president of W&M Properties, which develops and manages commercial ventures.

Investment Sales
REIT's Grow In Importance

On Oct. 3, NRK Management paid $115 million to buy the building at 810 Seventh Avenue, between 52d and 53d Streets. Before the year was out, the company had resold it for $143.4 million to Tower Realty Trust, earning a profit of $28.4 million in just 67 days.

"We are long-term holders and we had no intention of selling," said Adam Hochfelder, vice president of NRK, whose president is Richard Kalikow. "The only way I can describe it is to say that they made us an offer that we couldn't refuse."

According to Darcy Stacom, an executive director of Cushman & Wakefield and a prominent sales broker, the sales of 810 Seventh and 100 Wall Street, which also turned over in less than a year at a substantial profit, were the most significant of the year because they demonstrated the growing importance of real estate investment trusts in New York.

Tower, which bought 100 Wall for $58.5 million from the Witkoff Group, which had paid $37 million earlier in the year, became a publicly traded REIT this year and evidently felt the need to make acquisitions quickly to meet Wall Street's performance goals. "We had to close by 5 P.M. on Dec. 31, and that's what happened," Mr. Hochfelder said.

Tower, the former Feldman Equities, is one of the new REIT's making their presence felt in the New York market. Others include S. L. Green, which is targeting Class B office buildings that can be upgraded, and Boston Properties, which also sold its initial public offering this year and promptly bought 280 Park Avenue at 48th Street for $321 million and 875 Third Avenue at 52d Street for $210 million.

Not a new REIT but an increasing factor in the city is Vornado Realty Trust, which purchased Bernard Mendik's portfolio of Manhattan office towers and is investing in buildings near Penn Station, which is emerging as the southern anchor of a district being revitalized by the changes in Times Square at the north end.

"There is a lot of capital chasing deals," Ms. Stacom acknowledged, but argued that the economic fundamentals in the city were good.

"Interest rates are low, office vacancies are low and the city is prosperous," she said. "There is a lot to drive up values, and we have a ways to go before we get back to 1980's prices."

Industry analysts say what is happening in New York is part of a national trend. Dennis Yeskey, managing director of Deloitte & Touche's real estate practice in the New York metropolitan area, said that public consolidation of the real estate market was just beginning. "It's the same process that other industries went through in decades past," he said. Real estate is such huge asset class, he said, that even investments of hundreds of billions nationally represent only a few percentage points of the total.

Because New York is a complex market with large individual assets, Mr. Yeskey said, some REIT's felt the need to grow and gain experience in smaller markets before investing here. "They rehearsed out of town before opening in New York," he said. But he said they would be an increasing presence in the market.

Retail
Rental Rates Hitting the Roof

Rental rates for prime retail space have gone so high that further increases are unlikely, retail real estate specialists say. But even so, there is demand for the large spaces that are likely to become available this year at Rockefeller Center and later at the old Alexander's site at Lexington Avenue and 58th Street and at the Coliseum site on Columbus Circle.

"They are getting $400 a foot on Madison Avenue, $500 a foot on Fifth Avenue and $250 a foot in midtown," said Faith H. Consolo, a senior managing director at Garrick-Aug Associates, referring to the annual cost of a square foot of space in a store. "They have gone up so much over the last few years that I don't see them going up by much more than 5 percent in the first quarter and then leveling off in the second."

Alan Victor, executive vice president of Lansco Corporation, said that the biggest problem in the Madison and Fifth Avenue area was finding space, that demand far exceeded supply.

"These days you have to be ahead of the market by developing locations," Mr. Victor said. This often involves buying out the leases of existing tenants and moving them to new locations to accommodate new entrants.

He said one of the big events of the year was expected to be the announcement of the long-awaited plan to redevelop the retail space at Rockefeller Center. Although the center draws millions of visitors a year, the retail space has largely been occupied by small shops, and management has made it clear that it plans to combine the below-ground concourse with the street and upper levels to create space for large destination stores.

"They are going to create a mega shopping area there that will transform the place," Mr. Victor said.

He said he also expected plans for the Alexander's site to be made public this year, with the anticipation that the former department store would be redeveloped by its owner Vornado as a mixed-use building with 300,000 square feet of retail space and 500,000 square feet of living space on the upper floors. Redeveloping the long-closed store would bring new vitality to the neighborhood, something other retailers are already seeking to capitalize on.

"There are a couple of vacancies on 58th Street, and my phone has been melting," Mr. Victor said.

Despite city restrictions on development, retail specialists said they expected to see the continued spread in the city of "big-box" stores -- large spaces devoted to limited categories of merchandise.

"Rockefeller Center is one of the few places with the kind of size that retailers want," Ms. Consolo observed. "But you will also see things like a big Crate and Barrel downtown."

Michael N. Hirshfeld, director of the retail program at Equis of New York, noted that another retail phenomenon, the off-price outlet mall, was creeping closer to the city. Bargain hunters new have to drive about 50 miles to get to Woodbury Common, near Harriman, N.Y. "Metro Mall, a 1.3-million-square-foot outlet mall, is under construction in Elizabeth, which is within 20 miles of the city," he said "It looks like a home run."

Hotels
Occupancy Rates And Prices Up

With a booming economy and an influx of tourists to what is now perceived as a safe, vibrant city, New York's hotels filled almost to capacity. According to a study prepared by Coopers & Lybrand's lodging and gaming group, hotel occupancy last year was a record 85.5 percent, and the average room rate increased 9 percent to $175 a night.

Analysts say they do not expect the occupancy rate to increase much this year because of the lack of available rooms, although room rates may increase as hotel operators use the high demand as an opportunity to push prices upward. In spite of the demand, and an increasing flurry of proposals to convert existing buildings to hotels, not a huge quantity of new rooms are likely to reach the market soon. If all the most likely projects happen, they would add about 1,700 new rooms, which would not make much of a splash in a market that already has about 65,000 rooms, according to Coopers & Lybrand.

Tourist-class hotels, which charge under $100 a night, experienced the most growth in occupancy last year, up 7.2 percent, while the two top luxury categories were flat or down. Analysts attribute this to some travelers reducing their standards as rates for convention and first-class hotels increased, and to the attractiveness of New York to visitors on tight budgets.

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