Connect LA Recap: What You Need to Know to Get Deals Done

By Dennis Kaiser

Connect Los Angeles brought together nearly 500 CRE leaders last week for an information-packed conference in DTLA. The second-annual event featured four panel discussions including a lively discussion on capital flows, construction costs, competitive acquisitions and cycle worries.

The panel was charged with answering the burning question: Where is my next deal coming from? Here’s what investors, capital sources, acquisitions managers and investment brokers had to report about the climate of capital markets and the strategies being employed to position investment opportunities amid a volatile economy in 2016.

Cushman & Wakefield’s Marc Renard, a veteran investment broker, noted he’s seen investors reach a “psychological inflection point,” that’s been characterized by their changed “narrative of cautious optimism,” and highlighted sense of risk aversion, especially as we “get long in the cycle.” What that means is the further up the risk curve an asset is, the tougher it is to monetize deals. Though, he says, for ‘main-and-main’ assets, there isn’t much difference today.

One way changes in the market are playing out is during the refinancing of projects. The Ratkovich Company’s Clare De Briere noted there’s “extreme due diligence” taking place today. The developer experienced several instances where both domestic and offshore capital partners have taken the time to read each page of a loan package.

 For American Realty Advisors’ Chris Macke, their investment strategy keys off finding a “critical” element of “stimulation” in projects. The rate of movement by Millennials to the suburbs has been cut drastically as they seek to find a place that matches their desire to be in areas that are vibrant, whether that be in urban, suburban or an emerging ‘closer in’ location between the two, that he calls a “pseudo urban bridge.”

If a market exhibits “resiliency,” Macke says it may be an ideal place to find acquisition targets. For instance, the Phoenix market was hit hard but has bounced back well. American Realty Advisors also segments markets into two categories, growth or high-octane growth. Growth markets typically have income growth and are supply constrained, while high-octane growth markets may not be supply constrained and they typically outperform on a return basis.

One the lending front, CapitalSource’s Thomas Whitesell says new regulations designed to prevent the risky behavior that led up to the recession are causing bankers to consider the implications to them. Regulators created the High-Volatility Commercial Real Estate (HVCRE) category, which among other things requires borrowers to contribute 15% based on completed value. That effectively accounts for 18% to 19% of the capital stack now.

Additionally, Whitesell notes that repetitive questions from analysts starting in January about the stability of markets and project viability caused a ripple effect throughout the industry. Ultimately, that’s “created a huge pull-back in bank construction lending” the last six months. While there’s still deal flow, it’s thinned the herd and there’s more conservative underwriting now.

For others, the shift in the marketplace is causing some to adjust long-held investment strategies of buying and holding assets forever. In the case of John Hancock Real Estate, Ray Rothfelder says the mortgage lender’s decision to recently divest an asset in San Francisco was based on a strategic shift to start “taking money off the table and redistribute it elsewhere.” That may include exploring redevelopment of Class C industrial assets and converting them into creative office spaces.

Rexford Industrial’s Patrick Schlehuber says to get deals completed today may require an approach with “a creative flair.” He cited a merger Rexford recently completed as a means to acquire an asset they really wanted. The industrial REIT focuses on infill markets across Southern California, which has been positively impacted by what he termed the ‘Amazon ecommerce effect.’ While that’s caused disruption in the retail sector, the beneficiary has been the industrial sector.

Schlehuber also noted a couple of additional trends to watch. One is the emergence of self storage as a strong performer, especially in markets where new roof tops are being added. The other trend to track is the impact of the burgeoning marijuana industry. He says it changes the dynamic of the equation, and not necessarily in a good way for the industrial industry.

Since banks can’t make loans on assets with a marijuana occupier, Whitesell says industrial owners must take that into consideration.