By Paul Bubny
In 2017, commercial real estate finance veteran Jay Sugarman launched Safehold, a publicly-traded REIT managed by iStar Financial, of which Sugarman is chairman and CEO. The mission of New York City-based Safehold, according to its website, is “to revolutionize real estate ownership by providing a better and more efficient way for owners to unlock the value of the land beneath their buildings.” Its vehicle for waging this revolution is a rethink of the traditional ground lease.
Connect Media spoke with Sugarman to get his take on what makes “the modern ground lease” tick and why the uncertain environment arising from the COVID-19 pandemic is an especially opportune time for these transactions.
Q: To begin, what are the origins of the Safehold platform?
A: Four years ago, we created the modern ground lease industry. I’m not sure everyone knew what “modern” meant, but for us, it meant reinventing and upgrading the entire concept of a ground lease to work with today’s real estate finance and investment markets.
We base this concept on a few key principles: property size, property cluster, the payments need to be predictable, the provisions need to be simple and clear. If you think about those next to the old ground-lease world where things are improperly sized, improperly clustered, the payments were not predictable and the provisions were often vague and confusing.
As a lender, as an owner of real estate, we‘re in a perfect position to understand not just what was important about the ground lease, but how to optimize the whole capital structure. Think about the lender’s perspective and the owner today and the owner tomorrow. What would a ground lease have to look like, and how could we provide that in a way that would help property owners maximize value and lower risk, not handcuff them, disincentivize them to do what they do best?
Q: How large is the ground-lease market, and is it potentially larger based on introducing the concept to someone who may not have considered a ground lease before?]]]
A: We often take some of our best ideas from other parts of the investment world, the capital markets. This is one where we’re delivering the real estate with the same benefits that corporations have enjoyed for as long as I’ve been in business. You separate the operating assets from the fixed passive assets, and you let each part be priced efficiently. We’ve seen time and time again that separating different investments and letting the market price them independently and efficiently generally leads to value increasing. One plus one equals more than two.
Thirty years ago, there was just a mortgage. Now we realize that AAA buyers and BB buyers are different. But if we give them the risks and rewards that they’re most interested in, the sum of the parts is greater than the whole.
Over time, you’ve seen industries becoming much more efficient with their capital. Why didn’t that happen in real estate? We can talk about some of the reasons that ground leases didn’t work—but what if they did work? What if they did what every CFO in the corporate world realizes is a better solution? You could raise your returns and lower your risk.
You could probably go into every part of the real estate market with a pretty good argument of why ground leases would work for them too. You have office, multifamily, industrial, hospitality, retail. We only focus on the top 30 markets; we think that’s the best place to deploy our skillset, our knowledge and our intellectual property. That’s a $7-trillion market. I tell people I think this is a $1 trillion-plus industry. It’s because the logic of it use in another form in the corporate world is so endemic and so systematic, you could easily imagine it being a mainstream part of the real estate capital markets. And if it becomes mainstream, it certainly has the potential to become a $1-trillion market.
Q: As you’re promulgating the ground-lease concept as Safehold is presenting it, are you finding that potential participants come around pretty quickly and pretty readily?]]
A: We are. Two things to confirm that: one is that when we go into a new geographic market, the hardest deal is the first deal. Once others see somebody else do it, it’s tangible and it’s real, and they can see the benefits. Then we see also that our customers tend to come back. About 50% of our business right now is repeat business. This tells us that they get the value of the modern ground lease, as opposed to old, archaic ground lease. This tells us that this is creating value and is generating returns. So our mission, really.is to educate more and more of the market on how this can be used to help all property owners maximize value.
Q: We’re currently in a very unusual environment. Under these circumstances, how is the value proposition especially attractive for both owners and investors?]]
A: My fundamental belief is that capital needs to be efficient. Certainly, we believed that coming into COVID, and we believe it even more strongly now. Investors want efficient capital, low cost long-term. They want to reduce their maturity risk. They want their returns to be maximized. If you’re having a lot of maturity risk right now, it’s not a good time to have to refinance your capital stack. If you’re generating lower returns than somebody else, you’re probably getting your capital taken away from you instead of your investors saying, “You’re doing a great job; here’s more capital.”
These things have always been important, but COVID put a particular spotlight on being efficient with your capital, lowering your maturity risk profile, maximizing your returns and being a really good steward for your investors’ capital. We think the modern ground lease should definitely be considered by more and more property owners to do those things.
Q: A couple of large, well-known institutional players have joined forces to create a platform that covers similar territory to Safehold’s. How will increased competition be beneficial for the market as a whole?
A: We always expected that once people understood what we were doing, the competition would begin. This can help spread the message; we can’t be everywhere. I would say we’ve built the largest network by far: we have about 100 people working on this in one way, shape or form, whereas most of the other platforms I’m hearing about have a couple of people. We know that people can copy our website, but they can’t copy the expertise we’ve built. At this point, we’re just going to keep doing what we’re doing. If somebody else can help open up the market more broadly, that’s great, but we’re not counting on that. We’re like the ice cutter, breaking through the ice and others will try to follow.
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