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Say It Isn’t So…A Landlord Friendly Legislative Proposal Coming Out of Albany

Published on January 23, 2024

They say good things come to those who wait and perhaps the wait is over for NYC landlords and tenants.

Much of this blog has focused on the ineptitude, incompetence and questionable motives of NY State’s legislators when it comes to housing policy. And the criticism has no doubt been well deserved. It turns out, however, that there is reason for hope with the under-the-radar proposal introduced last year, clumsily referred to as the “Local Regulated Housing Restoration Adjustment.” Though just in the initial stages of the arduous path to becoming law, this measure has been described as a rent reset for vacant rent-stabilized apartments.

To refresh, current law requires rent stabilized units to remain at the legal rent upon tenant turnover. The only permitted rental Increases for rent stabilized apartments are set annually by the city’s Rent Guidelines Board (often less than 3% per year). The new proposal would allow a rental reset for those units that become vacant after being continuously occupied for ten (10) or more years and after being renovated. The new legal regulated rent would be the amount agreed to by the owner and that first new tenant.

The proposal, if passed, would be a meaningful step in the right direction. First, it would reset rents that are often so far below market that owners currently are better off leaving the apartments vacant. This should reverse the current trend undertaken by landlords of “warehousing” rent stabilized apartments once they become vacant. Second, the law would incentivize owners to renovate units that, in some cases, haven’t been renovated for a decade or longer and have fallen into disrepair.

In many ways, this proposal isn’t dissimilar to what happens when a rent controlled tenant vacates a unit and the unit becomes rent stabilized with the new tenant paying what is often referred to as a “first rent.” The rent tends to be at a market rate level though technically the apartment remains rent stabilized. So, the reset in rents would result in a sizeable increase from where it was but then settle back into a 1%-3% annual increase thereafter as governed by the Rent Guidelines Board.

This law, if enacted, would be one of the first compromises between landlords and rent stabilized tenants in quite some time where both sides benefit from the outcome. Can this possibly be in the words of Humphrey Bogart “the beginning of a beautiful friendship” among tenant advocacy groups, landlords and legislators in Albany? I am not so sure but it would be a good start. 

Website Source:
Rebong, K. (2024, January 11). The Daily Dirt: Lesser-known housing bills to watch. The Real Deal. https://therealdeal.com/new-york/2024/01/11/new-york-housing-bills-to-watch-in-2024-the-daily-dirt/
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The Future of Macy’s is in Question

Published on January 4, 2024

Department stores have been under threat for some time now as shoppers shift to discount stores, fast-fashion retailers, and buying directly from brands that have opened their own retail stores or newly launched websites. Several household names are struggling including Kohl’s, JC Penney, Saks Fifth Avenue, and Neiman Marcus, among others. But it is Macy’s that recently made the headlines.

Investors are Circling Macy’s and Its Assets

Macy’s (and Bloomingdales which it owns) may be the next major department store to disappear as two investor groups, Arkhouse Management and Brigade Capital Management, submitted a buyout proposal of approximately $5.8 billion or $21 per share, a 32% premium at the time of the offer. It isn’t clear what the investment groups, if successful, intend to do with the company i.e., keep it as a going concern or sell off all or some of the real estate assets. The question is meaningful as Macy’s remains among the world’s largest department-store chains with more than 94,000 employees and countless suppliers—all of whom would be impacted by store closures. With 783 stores, the malls that house these stores would also be affected by any major change to its operations.

But with “years of chronic underperformance,” according to one industry insider, Macy’s real estate may be worth more than its retail business. Net sales for the first nine months of 2023 declined by approximately 8% compared to the same period in 2019 (pre-pandemic) and profit has declined by 22%. To state the obvious, this is not good and directionally not where the retailer wants to be going. 

The Crown Jewel is the Real Estate Portfolio

Many national retail chains rent—and don’t own—the stores where they operate. Macy’s, on the other hand, owns more than 300 of its locations and investors believe the stores are as valuable as the retail business and perhaps even more so.

Certain estimates put the real estate portfolio at $6 billion with the managing director of the research firm, GlobalData, saying its “real estate is the jewel.” But real estate values like these where the end-user occupant is also the owner are never easy to underwrite. Typically an end user pays a premium above and beyond what a traditional investor would pay who looks at value based solely on the current or potential income. It is also worth noting that capitalization rates—the standard metric for valuing income producing properties—have increased substantially since the Fed began increasing rates but are expected to decline as the Fed begins cutting rates in 2024. Lower capitalization rates mean high asset values. That said, this may arguably be the ideal time to acquire Macy’s for its real estate portfolio.

Things are never so simple, however. Each Macy’s-owned property requires thorough due diligence as certain locations have deed restrictions that could hinder the development or re-purposing of these assets. Zoning issues as well could impact value. Another critical issue is understanding the value of Macy’s flagship New York store in Herald Square which is estimated to account for about a fifth of the value of the total real-estate portfolio, or $1.2 billion. Do you sell off all the other assets and keep the flagship store or do the opposite?

In short, Macy’s real estate assets are unquestionably quite valuable but how much specifically requires a deep dive by attorneys and other specialists to ascertain the impact of deed restrictions and zoning issues. No doubt something Arkhouse Management and Brigade Capital Management took into account.

Past Acquisitions by Activist Investors Didn’t Bode Well for the Targets

A quick revisit of similar transactions from the past should worry Macy’s executives and equity investors may want to make use of the few remaining lifeboats and get out with the recent increase in the stock price in case the deal ultimately sours along with the stock price.

One approach the prospective Macy’s investors may pursue is a sale-leaseback where they sell off the real estate but keep Macy’s as the tenant. A higher rent paid by Macy’s would be good for the sale of the real estate but more burdensome for the retail business. Private-equity firms that bought Mervyn’s, a now defunct department-store chain, split the business into an operating company and a property company and pursued a sale-leaseback structure. The economy teetered into recession and the company went out of business in 2008.

The hedge-fund manager Eddie Lampert bought Sears and sold off its real estate and invested very little into the retail operations. Today, Sears is a shell of its former self with just a handful of stores, down from thousands at its peak.

Is it the End of Macy’s

The fate of Macy’s is still up in the air but its demise would be disheartening especially if the perennial Thanksgiving Day Parade disappears. The first parade took place in 1924 (this year would mark the 100th anniversary) and it was first televised on NBC in 1953 and my mother was in attendance.  But perhaps like a good Nick Cave murder ballad, “all beauty must die.”

Website Source:
Kapner, S. (2023, December 12). Macy’s $5.8 Billion Question: What’s More Valuable, Real Estate or the Business? WSJ. https://www.wsj.com/business/retail/macys-billion-dollar-question-whats-more-valuable-real-estate-or-the-business-e6477c8e?mod=hp_listb_pos1
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Charlie Munger: The Man Who Consistently Beat Alpha and Not Just in the Market

Published on December 19, 2023

Most of us go through life wallowing in our own mediocrity. Not Charlie Munger.

A Legend Passes

Munger passed away last month at an age few of us will achieve. He was 99 and, as it turns out, roughly one month shy of his planned 100th birthday extravaganza. What is it that they say, “man plans and god laughs?” But Munger had his share of laughs too, many contributions, and no doubt tears that come with such longevity (he lost a son who died at age 9, his wife in 2010, and his left eye in his 50s from a failed cataract surgery). In the end though, he enjoyed more blessings than one man can stand. And, unlike Buffett who was somewhat fettered by the need to not offend, Munger got to say all the things he truly felt, or at least many of them, and we were better off for it.

To many, Munger will be remembered as the curmudgeonly, not terribly mobile, and slightly pugnacious lieutenant to the better-known Warren Buffet. But he was so much more than that: he was quick-witted, pithy, sagacious, and imbued with a life-long passion for learning. Perhaps the best way to pay homage to one of the greats who leaves behind an enormous legacy of insights and poetic nuggets is to share a few of them with you. 

Patience and Delayed Gratification Create Winners

Temperament and patience in investing were, in Munger’s views, more important than brains. Of course, you had to be smart enough but “the big money is not in the buying and selling…but in the waiting.” And he further noted that “it takes character to sit with all that cash and do nothing. I didn’t get to the top where I am by going after mediocre opportunities.”

Knowledge Can Make a Mediocre Mind Magnificent

On the importance of committing to a life of learning, “spend each day trying to be a little wiser than you were when you woke up…if you live long enough…you will get out of life what you deserve.” And the way you do that is through reading as in Munger’s “whole life, I have known no wise people (over a broad subject matter area) who didn’t read all the time—none, zero. My children think I’m a book with a couple of legs sticking out.”

Carpe Diem—Knowing and Seizing Opportunities and Passing On Junk

On recognizing wonderful opportunities that only come along a few times in a lifetime, wise investors should “bet heavily when the world offers them that opportunity.”  This of course requires capital on hand and the skill set to recognize a great opportunity from a good, mediocre, or even bad one. Are you able to do that?

Of course, nobody knowingly invests in a business that is grossly mismanaged, but when picking businesses to invest in, Munger admonished us to “invest in a business any fool can run, because someday a fool will.” A good business should be able to hold up during the inevitable periods of mismanagement.

On high-flying internet stocks, which he viewed unfavorably, Munger said “if you mix raisins with turds, they’re still turds” and on cryptocurrencies which he abhorred, “Sometimes I call it crypto shit.”

Passion Alone Is Not Enough—Buffett Is No Ballet Dancer

Recognizing that passion is necessary but not sufficient, Munger suggested “You’ll do better if you have passion for something in which you have aptitude. If Warren Buffett had gone into ballet, no one would have heard of him.” Maybe they would have as that would have been quite the spectacle.

Inflation Ain’t No Big Deal

On inflation, he paid little attention when investing saying “If I can be optimistic when I’m nearly dead, surely the rest of you can handle a little inflation.”

There are many books written about Charlie Munger but if you had to pick one, I suggest “Poor Charlie’s Almanack,” which was written by him. You will surely learn about his investing philosophy and approach to life. 

Website Sources:
Glanzer, T. (2023, April 30). Munger: "A lot of agony" in CRE loans. The Real Deal. https://therealdeal.com/national/2023/04/30/munger-a-lot-of-agony-in-cre-loans/

Moyer, L., & Cho, J. H. (2023, November 28). Munger’s Advice on Investing, Life Was Often Colorful, and Never Dull. Barrons. https://www.barrons.com/articles/charlie-mungers-quotes-investing-d877ce98?mod=hp_LEAD_3_B_1

Coy, P. (2023, December 6). Opinion | The Timeless Investing Wisdom of Charlie Munger, Buffett’s No. 2. The New York Times. https://www.nytimes.com/2023/12/06/opinion/charlie-munger-warren-buffett.html

Goodkind, N. (2023, November 29). Charlie Munger’s best quotes on investing, life and everything in between. CNN Business. Retrieved December 15, 2023, from https://www.cnn.com/2023/11/29/investing/premarket-stocks-trading-charlie-munger/index.html
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The Dilemma Albany Faces: Quid Pro Quo-Good Cause Eviction for 421a

Published on December 13, 2023

On January 3, New York legislators open up the 2024 session and there is a lot at stake. There is a pending showdown between developers, landlords, and real estate investors on the one side and tenant advocacy groups on the other. If Governor Hochul wants a deal allowing for multifamily development to resume, she may have to concede the passage of “good cause” eviction at the state level. Such a deal would be a Pyrrhic victory with tremendous cost to the greater housing sector in New York City.

What is Good Cause Eviction?

In most US communities, landlords can hike rents, evict tenants through the courts, or simply not renew leases. As a result, millions of Americans lose their homes each year or deal with threats of housing loss. And this is no small concern. Eviction can have serious and far-reaching harms for individuals and families, including immediate homelessness, housing instability, loss of belongings, financial hardship, and disruption of education. It is well-documented that the stress of losing one’s home can lead to anxiety, depression, and even suicide. But is good cause eviction the panacea to all these woes and should landlords be the ones subsidizing free market rents?

Generally speaking, “good cause” eviction legislation prohibits landlords from evicting tenants for reasons other than good or just cause i.e., being a nuisance, damaging property, or consistent non-payment of rent. Fair enough, but the controversy arises with legislative language that places limits on rent increases despite the free market status of the apartments. In states with “good cause” eviction, rent increases are either capped at a specified limit (e.g., 7%) or, in some cases, the language is more ambiguous disallowing “unconscionable” increases. The latter (applicable in NJ) lacks legislative bite and generally doesn’t curtail the number of evictions. In such jurisdictions, landlords tend to increase rents at their discretion without running afoul of the law. Tenants who can’t or won’t pay the increased rent are booted from their apartments.

Local Jurisdictions in NY Tried Good Cause Evictions Previously

In July 2021, lawmakers in the city of Albany approved “good cause” eviction at the local level, and other cities—Kingston, Newburgh, Poughkeepsie, and Beacon—followed suit a few months later. The laws capped rent increases at 5%, declaring anything in excess of that would be “unconscionable.” It didn’t last, however, as courts ruled these laws violated owners’ state property rights.

But the reprieve for landlords may be short-lived. The Democrats—who have a supermajority in New York State’s Senate and Assembly—are licking their chops as they want “good cause” at the state level and the circumstances may be just right for it to happen. Governor Hochul needs a win and pressure is mounting to jumpstart multifamily construction projects which seems to only be possible with a re-launch of the 421a tax benefits. NY State Senator, Brian Kavanagh, confirmed as much indicating that many of his colleagues are not willing to act on 421a without passing a version of “good cause” eviction. Sounds like quid pro quo but what will NY’s “good cause” eviction look like?

Good Cause Eviction is Catching on Across the Country

State-level “good cause” measures have been passed recently in California, Oregon, and Washington State. Legislators in Colorado, Connecticut, and Maryland have taken up the idea this year as well. “Good cause” has existed in New Jersey since 1974 but, as previously mentioned, it hasn’t had much impact on capping free market rents or in decreasing the number of evictions. In 2019, California passed AB1482, the Tenant Protection Act of 2019, which established statewide rent control. Specifically, rent increases are capped at 5% plus the change in the cost of living, or 10%, whichever is lower. To illustrate, in San Diego where the CPI increased by 4.1% from last year, landlords can increase rents in that county by 9.1% (i.e., 5% plus 4.1%). To the extent more stringent laws are already in place at the local level in California, then those laws trump AB1482.

New York is—perhaps unsurprisingly—looking to be more aggressive than California. Powerful Democrats, including Alexandria Ocasio-Cortez, Jerry Nadler, and Hakeem Jeffries, have named “good cause” eviction a top legislative priority.  The bill, if passed, would bar rent increases that exceed 3% of the previous rental amount, or 1.5 times CPI, whichever is higher.

According to the Bureau of Labor Statistics, the CPI increased by 3.5% in New York. The way the math typically works, there would be little difference in the permitted rental increases in New York for free market and rent stabilized apartments. It is no wonder then that “good cause” eviction is often referred to as “universal rent control.” Unlike in California, New York would impose rental increases on new and future, as well as, old housing stock. 

The Potential Impact of Good Cause Eviction

Landlord groups largely argue “good cause” eviction rules will slow down much needed new construction and hurt developers’ ability to get financing to complete their projects. Many in this camp also point out that there are already “incredibly strong tenant protections” in place and, if anything, the state should look to expand housing vouchers and legal representation for low income New Yorkers.

Supporters of “good cause” protections say the concerns of the real estate industry are nothing more than fear-mongering. Peter Hepburn, a sociologist at Rutgers University-Newark and an analyst at Princeton’s Eviction Lab, pointed to a “thriving rental market in New Jersey,” noting that “it has not collapsed by any stretch of the imagination.” That’s probably true but an incomplete assessment at best. New Jersey doesn’t cap free market rental increases the way New York is proposing to do. It is reasonable to believe that the rental caps proposed under the NY version of the law will have a chilling effect on construction projects and the ability to finance them. Land values will inevitably fall prompting owners to wait for a better legislative backdrop before selling or developing the land.

New York Senator Julia Salazar, who is leading the charge for “good cause” legislation in New York, said she would be concerned “if ‘good cause’ were in fact [an] impediment [to building]” noting New Jersey and Oregon as cases in point. But this is political theater of course with a heavy dose of hocus pocus and misdirection. New Jersey isn’t an appropriate comparison and Oregon only recently passed “just cause” eviction legislation in 2019 (and later updated the rules in 2023). The impact of Oregon’s law on new construction is simply too early to assess. Salazar claims that opposition to her bill is largely from those “who want to exploit the need people have to be housed.” That’s an outlandish claim that defies logic: developers are itching, practically begging, to build in New York. But not at an economic loss.

The horse trade of resurrecting 421a in exchange for “good cause” eviction is a bad one. Tax incentives alone won’t convince owners to build projects that are economically doomed the moment they are completed. Maybe the result of such a bargain is a city dotted with an overwhelming number of housing blocks reminiscent of the architectural pizazz of your 1970s run-of-the-mill NYC housing project.

Conclusion

Make no mistake: the “good cause” rules proposed by New York would be a full embrace of “universal rent control” across the state, including New York City. The rental landscape would include approximately one million apartments regulated under the HSTPA rules enacted in 2019 and the remaining two million free market units under “good cause” eviction at approximately 3%-5% annual rental increases. In other words, rent stabilization and “good cause” eviction would be a distinction without a difference.  

New York City is not Poughkeepsie, Salem (Oregon), or Newark. The city’s economy is larger than that of South Korea and Australia and getting this wrong could prove devastating. The housing shortage, despite Julia Salazar’s assured proclamations, would be exacerbated and you can expect the dilapidated state of many rent stabilized buildings to further play out across free market properties. The incentive to maintain and upkeep rent stabilized buildings evaporated the moment HSTPA became law and anyone in the commercial real estate space knows this.

Website Sources:
Cohen, R. M. (2023, May 1). The fight for “good cause” housing laws to prevent renter evictions. Vox. https://www.vox.com/policy/2023/5/1/23697209/landlords-tenants-good-cause-just-cause-eviction-housing

Effect of “Just Cause” Eviction Ordinances on Eviction in Four California Cities. (n.d.). Journal of Public and International Affairs. https://jpia.princeton.edu/news/effect-just-cause-eviction-ordinances-eviction-four-california-cities

Good Cause Eviction Bill That Would Impact Hotels Being Pushed Through New York Legislature | Insights | Holland & Knight. (n.d.). https://www.hklaw.com/en/insights/publications/2023/04/good-cause-eviction-bill-that-would-impact-hotels-being-pushed-through

Chang, C. (2023, March 30). Good-Cause Eviction Keeps Dying in Court. Curbed. https://www.curbed.com/2023/03/good-cause-eviction-new-york-courts-losing.html

Consumer Price Index, New York-Newark-Jersey City — November 2023 : Northeast Information Office : U.S. Bureau of Labor Statistics. (2023, December 12). https://www.bls.gov/regions/northeast/news-release/consumerpriceindex_newyork.htm#:~:text=Over%20the%20last%2012%20months,4.0%20percent%20over%20the%20year
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The Case for Buying Rent-Stabilized Multi-Family Properties

Published on November 29, 2023

I know, I know…buying multi-family properties comprised of mostly rent-stabilized units with nominal rental upside and increasing expenses in an elevated interest rate environment can’t possibly make any sense. However, I think it is time investors revisit the asset class and here’s why:

Purchasing Below the Cost of Capital

Unlike most properties on the market where there is a wide spread between the bid and ask prices, rent-stabilized properties can be acquired for cap rates in the range of 7.5%-8.5%, or below the cost of capital. Sure, current laws limit ownership’s ability to add any meaningful value through major capital improvements or apartment renovations but that also means no out-of-pocket capital expenditures will be incurred. Like an investment in a business development company or covered call ETF, you can expect limited appreciation but a consistent and healthy yield.  At a cap rate in the 8% range with borrowing costs where they are today, these properties can be acquired at an undemanding valuation for investors to jump in. 

Future Interest Rates

Owners and operators found out the hard way what Warren Buffet knew all along and that is “everything in valuation gets back to interest rates” and commercial real estate is no exception. The oft-quoted metaphor is that Interest rates are to asset prices what gravity is to an apple. However, if interest rates have peaked or will soon, investors can expect more favorable financing and valuations in the years ahead.

Over the next five to seven years, investors may be able to re-finance at a rate well below current market rates. Furthermore, if asset prices drop with higher interest rates, the inverse is also true. That is, if we move to a 5% interest rate world, it stands to reason that the appropriate cap rate for rent-stabilized buildings could be in the 5.5%-6% range.

To illustrate, imagine an investor buys a 15-unit rent-stabilized building with a $220,000 net operating income at an 8% cap rate in 2023, or $2.75 million. Five years later, assume the net operating income didn’t change (i.e., the rent roll increased nominally as did expenses), but the appropriate cap rate is 6%. The value of the asset increases to $3.67 million with no improvement in the rent roll or net income.

Predictable Income Stream with Long-Term Tenancy

When a tenant receives a favorable regulated rent, they tend to pay on time and stay for a lengthy period of time. Rent stabilized rents are typically nothing to write home about but the arrears and vacancy loss is very manageable making the revenue and income very predictable. Peace of mind has its benefits.

Future Legislative Changes

Hoping that the HSPTA goes away or its impact is substantially diluted by chipping away at the law may be wishful thinking. But there are a few things legislators in Albany would be wise to re-think as we approach the five-year mark since the passing of HSTPA. Any landlord-friendly amendments to the HSPTA law, could result in a surge in the value of rent-stabilized buildings.

The HSTPA is widely perceived as an unmitigated disaster and not just by landlords. Tenants sit in unrenovated units and receive only the bare minimum required of landlords. There are an estimated 40,000-90,000 rent-stabilized units that remain vacant as owners would rather warehouse the units than rent them out for the paltry legal rent they can achieve. For context, there are approximately 88,000 homeless people in NYC, of whom 31,500 are children. Regardless of your politics, this is a failure in policy with heart-wrenching implications.

Final Thoughts

Should you run out and buy as many rent-stabilized properties as you can find? Probably not as not all rent-stabilized buildings are created equally. When performing your due diligence, a few things to be mindful of include (i) the current taxes (is the asset in a protected tax class 2A/2B), (ii) any serious violations and penalties, (iii) the arrears report, (iv) whether any preferential rents exist and perhaps most importantly, (v) the delta between the legal rents in place and market rate. The last point matters as there can be value creation in vacating the property which is more challenging to accomplish when rents are well below market rate.

For those who remain unconvinced, there are risk free federal money market funds yielding 5.25% and for the more adventurous out there, consider the over/under that interest rates decline substantially in the next few years along with inflation and the folks that occupy the Senate and Assembly in Albany come to their senses even if just a bit. 

Website Sources:
Long, C. (2023, April 10). NYC Commercial Real Estate Sales Fell By Over 50% To Start The Year. Bisnow. https://www.bisnow.com/new-york/news/capital-markets/uncertainty-slowed-q1-investment-sales-but-distress-is-only-just-starting-118456

Hall, M. (2023, October 5). “The Worst Market I’ve Seen”: NYC Commercial Real Estate Sales On Pace For Worst Year Since 2009. Bisnow. https://www.bisnow.com/new-york/news/capital-markets/new-york-investment-sales-is-down-65-on-last-year-120975

Basic Facts About Homelessness: New York City - Coalition For The Homeless. (2023, November 8). Coalition for the Homeless. https://www.coalitionforthehomeless.org/basic-facts-about-homelessness-new-york-city/#:~:text=In%20September%202023%2C%20there%20were,each%20night%20in%20September%202023.
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The WeWork Project Comes to an End

Published on November 16, 2023

Every story must ultimately come to an end and this one finishes on Chapter 11.  WeWork—the beleaguered co-working space company—filed for bankruptcy in early November after struggling to pay back its debt. This can happen when you own assets worth $15 billion but carry debt obligations of $19 billion. The fall was truly spectacular in economic terms as WeWork’s value fell from $47 billion at its peak to a mere $45 million just before filing for bankruptcy.

The Reasons for WeWork’s Downfall

What explains the mighty downfall? A few things it turns out: first, the company masqueraded as a tech startup but, once disrobed, was revealed to be little more than a “run-of-the-mill” office-space provider to short term renters. Its business model revolved around rental arbitrage whereby the company entered into long term leases with landlords at fixed rents, improved the space, and sub-let it to short term tenants at a premium above the fixed rate. Unfortunately, WeWork entered into long-term leases at the height of the market in the late 2010s only to see the market for office space decline soon thereafter and then fall off a cliff when the pandemic hit in March 2020. It turns out arbitrage only works if you can re-rent space for more than what you are paying.

IPO Attempt in 2019 Reveals Trouble

A failed IPO attempt in 2019 revealed all was not well at WeWork. The filings revealed larger-than-expected losses and potential conflicts of interest with the co-founder and then-CEO Adam Neumann. Neumann was booted the same year but only after negotiating a golden parachute in excess of $1 billion. 

One brilliant concession Neumann negotiated as a condition of his departure was a $430 million loan from Softbank, an early and major backer of WeWork, that did not need to be paid back. Instead, Softbank reserved the right to seize Neumann’s WeWork shares held as collateral if he failed to pay back the loan (the shares, worth $500 million at the time of the concession, were worth $4 million at the time of the bankruptcy filing). Think Neumann will be paying back the loan? Me neither, but don’t hate the player, hate the game.

Even after going public at a much reduced valuation of $9 billion, WeWork never truly found its footing. Competitors entered the space as the model was easily replicated and the work-from-home phenomenon turned out to be more permanent than transitory. Add higher interest rates and macroeconomic uncertainty and WeWork’s failure was a foregone conclusion.

Bankruptcy Doesn’t Mean Game Over

The “automatic stay” is a fundamental feature of the bankruptcy process and it offers immediate and powerful protections to debtors like WeWork. For example, most collection efforts, lawsuits and foreclosure actions initiated by creditors are immediately halted giving WeWork time to reorganize its finances and live to see another day. This leaves many of the landlords who have long term leases with WeWork in an unfortunate predicament as WeWork can, subject to certain requirements, cherry pick those leases it wishes to hold onto (the well performing ones) and assign or cancel the underperforming leases. In fact, WeWork said it would begin to renegotiate many of its leases and with hundreds of locations in the US and Canada comprising nearly 20 million sq. ft. of office space, there is much work to be done.

Who Loses in the WeWork Bankruptcy

WeWork will likely emerge from bankruptcy a leaner, more efficient, and scaled down version of itself presumably with the best performing locations intact. Unfortunately, there will be many losers from the fallout, including equity investors, hundreds of landlords, and debtholders. Adam Neumann, however, won’t be one of them. Neumann recently commented that the WeWork bankruptcy filing was “disappointing” and “challenging” for him to watch blaming the company for “failing to take advantage” of its potential. In the end, Adam Neumann may have failed in his stated mission of “elevating the world’s consciousness,” but he managed to make a small fortune at WeWork mostly by starting with a large one. 

Website Sources:
Holman, J., & Moreno, J. E. (2023, November 7). WeWork files for bankruptcy amid glut of empty offices. The New York Times. https://www.nytimes.com/2023/11/06/business/wework-bankruptcy.html 

Brown, E. (2023, November 11). WSJ News Exclusive | A possible winner from WeWork’s troubles? Adam Neumann. The Wall Street Journal. https://www.wsj.com/real-estate/commercial/a-possible-winner-from-weworks-troubles-adam-neumann-0144d018 

Gladstone, A., Saeedy, A., & Putzier, K. (2023, November 8). WeWork, once valued at $47 billion, files for bankruptcy. The Wall Street Journal. https://www.wsj.com/articles/wework-files-for-bankruptcy-5cd362b5 

Plotko, G., & Higgins, M. (2023, September 17). WeWork’s potential bankruptcy raises issues for landlords and member-tenants. New York Law Journal. https://www.law.com/newyorklawjournal/2023/09/17/weworks-potential-bankruptcy-raises-issues-for-landlords-and-member-tenants/?slreturn=20231010192823
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Invisible to the Naked Eye: Apartments are Dissappearing in NYC

Published on October 26, 2023

If you’ve lived in New York City for any period of time, you have seen your fair share of newly constructed buildings and the demolition of countless others. Less apparent are the changes taking place behind the facades of existing residential buildings and how those changes are impacting the well-documented housing shortage. Since 1950, NYC has lost more than 100,000 apartments through apartment combinations and the conversion of multi-unit buildings into single-family homes, according to a recent article in the NY Times. Certainly, the net number of new apartments is greater today than it was in 1950, but the reduction of total unit count through combinations and conversions is an underreported issue exacerbating the lack of sufficient housing in NYC.

Wealthy Neighborhoods with Transit Access Most Affected

The desire for more space is something any city dweller can appreciate but not many can afford. Therefore, it should come as a surprise to no one that the combination of apartments is taking place in wealthier neighborhoods in NYC like the Upper East Side and the West Village in Manhattan and Park Slope in Brooklyn. These neighborhoods enjoy easy access to transit and jobs and the very reason why we need more not fewer homes. We need not begrudge folks seeking more space for growing families or due to greater purchasing power, but it does play a role in the overall insufficient supply of housing.

Take the row houses on 88th Street between Amsterdam and Columbus Avenues where there are 173 units, compared to more than 400 on the same street in the 1960s. This is the result of the conversion of multi-family buildings into single-family homes.

How Much Space is Enough: Depends Who You Are

Another example of this is 12 East 72nd Street, owned by a well-known NYC landlord. Twenty years ago, the property (totaling nearly 20,000 sq. ft.) contained 23 apartments before being turned into a single-family home for the owner and his family. Opulent for sure but not illegal.  

Brooke Shields (of 1980s Blue Lagoon fame) jumped into the single family conversion game by turning an eight unit Greenwich Village building into a home worthy of an Architectural Digest spread.

From 2010 to 2021, the community district that includes the Upper East Side has seen net zero new housing during that period. Yes, 3,000 units of new housing were added but 1,000 were lost through demolition and 2,000 through consolidation.

One Example Highlights the Economics of a Single-Family Conversion

The economics of these deals make sense as this example highlights:

  • Purchase Price: $1,500,000
  • Renovation Cost: $750,000
  • Re-sale to End User: $3,250,000
  • Profit: $1,000,000 (excludes carrying costs)

The decline in unit count through the consolidation of apartments and conversion of buildings cannot be blamed on individual households. It is a citywide problem that stems from policy choices made at the local and state levels. Adam Brodheim, a preservationist who conducted much of the research, says the loss of apartments in these ways would not be a problem “if you were building a lot of new housing.” But alas, the number of new developments in the pipeline in NYC is down significantly compared to historical averages with nothing to suggest this will change in the near term.

Website Source:
Zaveri, M. (2023, October 19). How 100,000 apartments in New York City disappeared. The New York Times. https://www.nytimes.com/2023/10/19/nyregion/nyc-apartments-housing-crisis.html
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Sheltering Migrants or Housing Vulnerable New Yorkers? Can’t Do Both!

Published on October 10, 2023

Anyone versed in basic economics will tell you that it is all about the allocation of scarce resources to maximize societal benefits. If we adhere to a budget (and NYC does—it must), a dollar spent on one program is a dollar not available for others. This is the very definition of opportunity cost and the current migrant crisis plaguing NYC highlights the issue.

Migrants Flood into NYC

For anyone asleep at the wheel, more than 122,000 migrants have arrived in NYC since April 2022. The cost to shelter a single family is downright jaw-dropping at approximately $380 per night or nearly $35,000 over a three month period. At the current pace, the city is on track to spend $12 billion over the next three years to shelter and support migrants. For some perspective, the budgets of the Fire, Parks, and Sanitation Departments combined are about $5 billion annually.

Mayor Adams was blunt in his assessment of this crisis when he said “This issue will destroy New York City.” And perhaps it will if federal assistance doesn’t arrive in time or falls far short of what is needed. And isn’t just about dollars—there simply isn’t enough housing available. Last week, the city’s lawyers requested the 1981 consent decree—that legally obligates the city to provide shelter to migrants—be suspended whenever the governor or mayor declares a state of emergency. Opposed to the move, the Legal Aid Society and the Coalition for the Homeless said the change would “gut” protections and noted “street homelessness would balloon.” No decision by the NY Supreme Court has been made as of this writing.

Who Should Taxpayer Dollars Help?

In a perfect world, our desire to help all those in need would be bankrolled by an infinite flow of dollars. But that isn’t the case and, therefore, legislators should ask whether we should be subsidizing low income New Yorkers living in rent stabilized apartments or recently arrived migrants?

I recently wrote a piece here about the rent stabilization laws and the burden they put on landlords. Several owners have already experienced—and many more are facing—the loss of their properties through foreclosure as the income from these properties is insufficient to support current debt loads. Meanwhile, buildings are falling into disrepair and we may be headed toward the blight and urban decay that defined certain NYC neighborhoods in the 1970s and 1980s. City, state, and federal programs such as FHEPS, Section 8, and HASA subsidize the rents of certain low income tenants and I think it’s fair to ask why not expand the subsidy to include low income rent stabilized tenants?

The $4 Billion Math Problem: Subsidizing Rent Stabilized Tenants or Sheltering Migrants

Let’s do a bit of math.* According to a city survey in 2021, the median rent for a stabilized apartment was $1,400 compared to $1,825 for an unregulated unit. With approximately 900,000 stabilized units in the city, the rent shortfall amounts to approximately $383 million a month (or $4.6 billion a year)—the required subsidy to make landlords whole. Ironically, this cost is about the same as housing and supporting migrant families. Who deserves those dollars? Both groups of course but in a world of scarce resources, legislators must choose. 

*This calculation assumes that the cost to subsidize every rent stabilized apartment is the difference between the median stabilized rent and the median unregulated rent multiplied by the total number of stabilized units in NYC, which may not be correct. To undertake a more accurate calculation, we would need to look at each regulated apartment on an individual basis and compare its rent to the market rent for a similarly sized and located unit, and aggregate that amount for all 900,000 stabilized apartments over a monthly and annual basis.

Website Sources:
Mays, J. C. (2023, August 10). Mayor Adams Said Migrant Influx Will Cost NYC $12 Billion. The New York Times. https://www.nytimes.com/2023/08/09/nyregion/adams-nyc-migrants-cost.html#:~:text=As%20newcomers%20continue%20to%20arrive,them%20and%20provide%20other%20services.

Fitzsimmons, E. G. (2023, September 7). Eric Adams Asserts Migrant Crisis Will ‘Destroy New York City.’ The New York Times. https://www.nytimes.com/2023/09/07/nyregion/adams-migrants-destroy-nyc.html#:~:text=Mayor%20Eric%20Adams%20said%20that%20New%20York%20City%20was%20not,We’re%20here

Fitzsimmons, E. G. (2023, October 4). NYC Moves to Suspend Right-to-Shelter Mandate Amid Migrant Crisis. The New York Times. https://www.nytimes.com/2023/10/04/nyregion/eric-adams-right-to-shelter-migrant-crisis.html
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US Supreme Court Refuses to Hear Landlords’ Challenge to NY Rent Stabilization Law

Published on October 6, 2023

When all else failed, landlord-friendly groups in NY like the Rent Stabilization Association and Community Housing Improvement Program (better known as RSA and CHIP) turned to the US Supreme Court to hear their challenge to the 2019 rent stabilization law. And why not, the court is stacked with conservative justices and it was reasonable to think they would take this on. Not so, the court declined to hear the case.

The Case Made by Landlord-Friendly Groups

The case was largely premised on the idea that the rent law was so onerous and, therefore, amounted to a “taking” under the Fifth Amendment to the Constitution (a.k.a. eminent domain). And that requires proper compensation to the landlords.

Eminent Domain in NYC: Physical “Takings” Nothing New

In New York City’s history, there have been instances of legal government “takings” using eminent domain, such as the redevelopment of Times Square in the 1990s and the transformation of Central Park more than 150 years ago. In Times Square, it was pornographic theaters that were shut down, while Central Park was converted from rocky swampland dotted with small farms into the 843-acre oasis of greenery it is today. These were both constitutional “physical” takings as the property owners were fairly compensated for their lost land.

2019 Rent Law Case: Regulatory Taking?

The case brought by RSA and CHIP is a bit more nuanced and arguably a tougher case to make as landlords weren’t stripped of their assets. Instead, the new law imposed financial burdens on property owners and significantly restricted their ability to optimize the value of their properties. Landlords contend that the unfair burden placed on them involves providing “public assistance” to tenants at the owners’ expense through mechanisms like low rents, mandatory lease renewals, and succession rights. A role more suited for government than the private sector the argument goes.

The Law is Nonsensical and Hurts NYC’s Housing Stock, but Is it Unconstitutional?

CHIP’s executive director, Jay Martin, slams the law as “irrational” and claims that it is “destroying New York’s housing.” While there is merit in these claims, it does not necessarily render the law unconstitutional. After all, states and cities often impose onerous property restrictions that, although cumbersome, are still lawful—examples include zoning laws, building height restrictions and parking requirements, to name a few). Had the case been heard, the Supreme Court would have had to decide whether the 2019 rent law effectively deprived owners of all economically reasonable use or value of their properties. I’m not so sure that it does but it is certainly causing a lot of hurt for landlords.

The Lawsuit was a Hail Mary

The truth is the lawsuit was a long shot to begin with, in part, because the Supreme Court hears so few cases each year (about 70-80 out of 7,000-8,000 petitions each term). Furthermore, rent regulation issues have been covered by the court in the past with existing precedent (little of it favorable to landlords). In 1988 and, again in 1992, the Supreme Court determined that rent control, on its face, does not constitute a taking. Perhaps the case survives on appeals but I think owners of rent regulated properties in NYC are stuck contending with the status quo.

Website Source:
Rebong, K. (2023, October 2). End of the road? Supreme Court declines to take up challenge to New York’s rent law. The Real Deal. https://therealdeal.com/new-york/2023/10/02/supreme-court-rejects-ny-rent-law-challenge/
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A Storm is Brewing for Rent Stabilized Owners

Published on September 20, 2023

Once upon a time, in a land far, far away, there was this urban oasis perceived by the world as the epicenter of capitalism where people flocked from all over to realize their professional and personal dreams. Capitalism was embraced and upward mobility was not a slogan but a truism of what was possible for anyone willing to work hard for it. That place was called New York City and the year was 2018.

The Rules Governing Rent Regulation in NYC Turned Upside Down

In 2019, the legislative Armageddon commenced from headquarters in Albany. New York State passed the Housing Stability and Tenant Protection Act (HSTPA) and, overnight, the economic incentive to maintain or improve rent stabilized properties evaporated. It even stopped making sense, in many cases, to rent out recently vacated units. Best to leave the units vacant and hope for the laws to change than receive a nominal rent and an endless parade of 311 complaints. The consequences were foreseeable to all except those in government so it seemed. Your humble author wrote this piece the day the law came into effect in June 2019 (link here) and I’m no genius just an astute observer.

Rent Stabilized Properties are Distressed and it’s just the Beginning

Now some four years later with elevated interest rates, the entire asset class is at risk. Expect a tsunami of defaults in the coming months, especially from those owners who purchased properties just before the HSTPA came into effect and capitalization rates were below 4%. Sugar Hill Capital Partners was the first notable group to fall, defaulting on most of their assets in 2022. Many are now concerned that the Sugar Hill “foreclosure cases may be the proverbial tip of the iceberg.” So far, politicians remain on the sidelines unwilling to modify HSTPA and may even be gleeful by what they are witnessing if, as they must believe, it assures their re-election.

Distressed sales of rent stabilized buildings are ramping up. Two institutional players, Taconic Partners, and Clarion Partners, sold a 14-building Bronx portfolio in April 2023 at a 40% discount to what they paid in 2018. The 550-unit Dunbar Apartments in Upper Manhattan sold for a bit over $86 million, or just enough to cover the adjustable rate loan. One broker active in this space lamented that despite pricing these assets so low, he “still isn’t getting any bids.” According to The Real Deal, there are $161 million in foreclosures on rent stabilized buildings in NYC and many more in default. City Skyline Realty has at least $76 million in delinquent debt and $10 million in foreclosure in connection with one of their Bronx buildings.

Owning Rent-Stabilized Buildings: Reckless Decision Making or Unfortunate Circumstances?

Were all these groups—many institutional owners—reckless or just unfortunate? Hard to say and perhaps it’s a bit of both. One could argue that it’s a risky game to own a highly concentrated portfolio of rent stabilized properties in a few select neighborhoods. That said, Vornado Realty Trust and SL Green Realty—both led by well-regarded industry legends—suffer from a similar fact pattern the only difference being they operate in the office market. In fact, it is quite common for owners to stick to an asset class they know well and in markets they specialize in.

Albany didn’t tweak the rent laws with the HSTPA, they changed the game entirely throwing owners overboard into shark-infested waters with little warning and the most meager of provisions. Perhaps they didn’t understand the full impact of the law on owners at the time but they certainly do now. Without the ability to renovate apartments and increase rent rolls, these buildings and their owners were doomed the day the law passed. Inflation isn’t helping either. According to real estate attorney, Sherwin Belkin, “if the costs are going up and the income stream is substantially reduced, that’s going to put a lot of folks underwater or close to it.” So, where do we go from here?

What can Owners do to Survive and Keep their Assets?

For certain borrowers and types of loans, kicking in more capital may result in an extension of the loan allowing ownership to live to see another day. Government agency loans (which are amongst the biggest lenders for rent stabilized buildings), however, are less forgiving and generally don’t have the appetite for so-called workouts. Furthermore, many borrowers don’t have the ability or willingness to add more equity in the current environment only to lose the building at a later date. Why throw good money after bad the thinking goes.

The industry is bracing for the worst. With mass foreclosure sales on the horizon, who takes back the buildings, the banks, or the city? Either way, “you end up with a housing stock that does not get attended to, and that has both short- and long-term negative ramifications for the city,” according to Belkin. It’s too early to call whether we return to the urban decay of the 1970s and 1980s—marked by high crime rates and abandoned buildings—but there’s nothing to suggest the situation is improving. A rollback or significant watering down of the 2019 HSTPA law may be the only meaningful salvation for distressed owners but there isn’t even a whisper of that coming from Albany.

Website Credit:
Tuturice, V. (2023, September 5). Distress in rent-stabilized buildings rises to surface. The Real Deal. https://therealdeal.com/magazine/national-september-2023/distress-in-rent-stabilized-buildings-rises-to-surface/

Zaveri, M., & Bensimon, O. (2023, June 22). Rents to Rise for 2 Million New Yorkers This Year. The New York Times. https://www.nytimes.com/2023/06/21/nyregion/rent-stabilized-apartment-homes-rise.html 

Mays, J. C. (2023, August 10). Mayor Adams Said Migrant Influx Will Cost NYC $12 Billion. The New York Times. https://www.nytimes.com/2023/08/09/nyregion/adams-nyc-migrants-cost.html#:~:text=375-,Mayor%20Adams%20Says%20Migrant%20Influx%20Will%20Cost%20New%20York%20City,them%20and%20provide%20other%20services.
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