Don Tishman's Real Estate Development and Investing Solutions

Tomorrow morning after the NY Stock Exchange opens, who know where the daily roller coater will end the day. Nevertheless, when we look back at other periods of extreme volatility, they have been always followed by new waves of great opportunity.

First remember what George Santayana said, “Those who do not learn from history are doomed to repeat it.”

Prior to Ronald Reagan’s election as President, the only commercial building that were given a fast depreciation write off were new buildings. The Reagan administration changed the rules so that all commercial buildings qualified for a quick write off. This automatically increased the value of these buildings.  A building that provided a 10% before tax return, now could now provide a 10% after tax return. If the taxpayer was in a 40% tax bracket, the taxpayer’s return increased 40%.  Thus, by the stroke of a pen Reagan substantially increased the owner’s return on investment.  What followed was a frenzy to buy office buildings.  These buyers, like sheep hurrying to slaughter, all believed that office rents were going to zoom to heretofore unprecedented heights.   We were developing commercial building on the West coast, at this time, and were amazed that old office buildings were selling for a 5% cap rate.  Shortly thereafter, this bubble burst. Foreclosures followed more foreclosures. Many lending institutions failed. The government ended up owning many office buildings. The Resolution Trust Corporation (R.T.C.) pioneered the use of so-called “equity partnerships” to help liquidate this commercial real estate which it inherited from insolvent thrift institutions. While a number of different structures were used, all of the equity partnerships involved a private sector partner acquiring a partial interest in a pool of assets, controlling the management and sale of the assets in the pool, and making distributions to the RTC reflective of the RTC’s retained interest.

These office building were sold at very low prices and could be acquired with little or no down payment. After the financing, these buildings were showing a 15% to 20% return on investment. Many buyers of these buildings sold partnership interests in the buildings yielding a 10% to 12% return and retained a 50% interest in the office buildings for themselves. 

During the 1990′s and the beginning of the 2000′s, there very few new office buildings developed. Credit had tightened up because of the fear lenders had of getting stuck with new office buildings with so many buildings were being sold by the R.T.C. at basement bargain prices.   This eventually led to a shortage of office space and the resulting substantial increase in office rents.  These buyers from the R.T.C.  became very wealthy and were looked upon as geniuses. They owned 50% of many office buildings by using other people’s money to purchase their interests. This was all made possible by the low price they purchased these office buildings from the R.T.C.

The Bush administration has, in effect, nationalized U.S. commercial banks. The administration are inheriting a ton of foreclosures and will continue to do so for a few years.  These will include assets of every kind and description imaginable. They will use the R.T.C. or similar vehicle to dispose of these assets. The same thing is happening in residential real estate that happened in office buildings in the 1990′s.  The severe credit crunch has stopped new housing development. Housing starts are at their lowest level in 17 years. September, 2008 house sales are up over September, 2007 home sales.  After the R.T.C. type sales of the foreclosed properties, there will be a shortage of housing. This will result in higher prices, etc. 

You may ask “Why a shortage of housing?”

The Millennium generation, people 28 or younger, is huge. They are comparable to the baby boomers in size. They will need housing. They will become buyers at a time when prices are rising. 

Do not despair - get excited by the wonderful opportunities in the near future!!!

Are you interested? If so, send me your thoughts

I have received several emails asking whether Donald Trump is as successful a developer as he promotes himself to be.

There is a wide range of opinions about Mr. Trump. Here are a few of them

First what the very well respected and successful investor, Warren Buffet said  about Donald Trump during Three Lectures to the Notre Dame Faculty, MBA Students and Undergraduate Students.

“Where did Donald Trump go wrong? The big problem with Donald Trump was he never went right. He basically overpaid for properties, but he got people to lend him the money. He was terrific at borrowing money. If you look at his assets, and what he paid for them, and what he borrowed to get them, there was never any real equity there. He owes, perhaps, $3.5 billion now, and, if you had to pick a figure as to the value of the assets, it might be more like $2.5 billion. He’s a billion in the hole, which is a lot better than being $100 in the hole because if you’re $100 in the hole, they come and take the TV set. If you’re a billion in the hole, they say “hang in there Donald.”

It’s interesting why smart people go astray. That’s one of the most interesting things in business. I’ve seen all sorts of people with terrific IQs that end up flopping in Wall Street or business because they beat themselves. They have 500 horsepower engines, and get 50 horsepower out of them. Or, worse than that, they have their foot on the brake and the accelerator at the same time. They really manage to screw themselves up.  ..Donald Trump wanted to get rich. That might not be a great qualifier. What would you do to select that one person out of this whole crowd here, because there will be a huge difference in results here. There’s not a huge difference in IQ. But there will be a huge difference in results. [To understand success, you would probably relate it to a lot of qualities, some of which would be straight from Ben Franklin – I would suggest that the big successes I’ve met had a fair amount of Ben Franklin in them. And Donald Trump did not.

When I look at our managers, I’m not trying to look at the guy who wakes up at night and says “E = MC 2” or something. I am looking for people that function very, very well. And that means not having any weak links. The two biggest weak links in my experience: I’ve seen more people fail because of liquor and leverage – leverage being borrowed money. Donald Trump failed because of leverage. He simply got infatuated with how much money he could borrow, and he did not give enough thought to how much money he could pay back.

Rosie O’donnel, the TV hostess, has written a book  attacking  Trump for being a phony and being bankrupt.  Donald said the book was a “bore”. 

There are many derisive reviews of his books because of his financial difficulties. I feel  many of these are just sour grapes.

Timothy O’Brien , a New York Times investigative reporter wrote,TrumpNation: The Art of Being the Donald,  a  240-page reinterpretation of the Donald Trump legend based on interviews with the same Donald Trump. Here is summary from the book:

“Although Donald’s business career is marked by early successes overshadowed by later, repeated failures, flirtations with personal bankruptcy, sequential corporate bankruptcies, the squandering of billions of dollars, and the safety cushion of a multi-million dollar inheritance from his wealthy father, he is prime-time TV’s most sought-after and enchanting guru for aspiring entrepreneurs. Donald is the country’s premier embodiment of the self made man.” (p. 214)

In New York City, the frequent rumor I have heard is that Mr. Trump  owns very little real estate.  Many of the buildings called “Trump XXX” etc are not owned by Mr. Trump. He receives a marketing fee for the use of the Trump name.  I can not say this is true as I have no personal knowledge about Donald Trump. Many years ago I met Fred Trump, his father, a wonderful person. . Fred was a very well-respected and successful developer of multi-family buildings in New York City. He left his family millions of dollars

Above all, Donald Trump is a wonderful self promoter. He has convinced many people that he is the self made man etc.  Donald Trump is very successful author with over 20 Donald Trump books listed on Amazon. Many of his books are about getting rich etc.  I admire his audacious and continuous self promotion that has succeeded in making him a well known celebrity.  He certainly has convinced many very attractive women that he is the real thing. 

As to his ability to develop real estate that I leave to you.

The DJIA had in biggest weekly gain last week. Looking at the minute by minute  DJIA’s  swings is like riding a steep dropping roller coaster.  Like Shakespeare once said: “Full of sound and fury- signifying nothing”

This seems to show how unstable the geniuses  of Wall Street are.  For instance, these same wunderkind were very concerned because housing starts were at their lowest levels in 17 years.  To the contrary. this is great news!! This means that the large inventory of unsold residences will have little competition from new units.  Reducing this inventory is the only way  the housing markets will return to normal. 

Many years ago, when I was first dealing with Wall Street I realized that these “geniuses” did not have a clue about real estate.   A few examples – in the 1970′s Congress created Real Estate Investment Trusts (REIT)-Wall Street jumped in with both feet. Initially these REIT’s were very successful.  Wall Street attracted millions of investor dollars until most of the REIT’s collapsed. Why? These same “Wall Street wonders” ignored the most  basic principal of real estate values-location, location, and location.  If a building in the worst part of a city brought in the most income , these wonders preferred these buildings to well located buildings. These REIT’s Ignored  buildings in the best sections because they had a lower return. Eventually, their preferred buildings became vacant and many of these REIT’s failed.

Suddenly, this “new” investment vehicle, REIT’s, was rediscovered by Wall Street wonders in the 1990′s. In many cases we have  had a different result because these new REIT’s were run by experienced real estate people.

Sanford Weil, one of the most infamous of the Wall Street “wunderkind”, nearly destroyed City Bank. I first heard of Mr. Weil when he first was being called the new Wall Street “wunderkind”.

Leonard Miller was a hard working homebuilder who had done very well in Miami, Florida.  Weil’s firm had just  taken Leonard Miller’s company ,Lennar, public. Sandy Weil wanted to increase Lennar’s value by broadening their products to include multi-family buildings. We had just done a similar venture with Bill Leavitt’s company, America’s largest homebuilder. One of Weil’s underwriters asked us join with Lennar in developing multi-family buildings, both garden and mid-rise, in numerous locations.  This was in the 1970′s when many multi-family markets were down. In spite of our pointing out that their must be  a market for our multi-family product before we would consider developing, the underwriter insisted we join forces to start developing many multi-family developments ASAP. He insisted they could raise the equity and we had no risk. This underwriter had no qualms about saying that their company had no  legal or ethical  obligations to their customers.  This was shocking to us.  The most important asset your business has is your reputation. When  you ask a lender for an 80% loan to value, the lender can  have more at risk then you do. Your character was an important factor in the underwriting of the loan. In spite of admiring Leonard Miller, we did not accept the offer from this underwriter 

Later with the advent of conduit loans and the packaging of home loans with various tranches,  the character of the buyers was not significant.  These were not relationship loans. The lender making these loans made a quick buck with no risks once the loan was sold. Naturally, these loans were underwritten with less scrutiny than if the lender was at risk. These bundling of  non-character loans were given the highest credit ratings  by the Wall Street rating agencies. This is hard to believe. The rating agencies were overwhelmed with this huge new source of business. They had little knowledge of how to underwrite these massive piles of loans. Competition for the quick turn around of the ratings of these loan packages was furious. It is like Joe the Plumber being offered $1,000,000 up front to fix a electrical problem. Joe has nothing to lose because he is handed the $1,000,000 before he starts to work. Just because he is a plumber fixing pipe leaks, does that mean he can  fix an electrical problem? Joe has seen electricians at work- it seems simple enough- until he grabs the wrong wire and gets burned. 

That is what happened on Wall Street with real estate. Eventually. this house of cards came tumbling down. Problem is that we own the house and have to pay for the damages done by those  Wall Street genius equivalents to Joe the Plumber. Turns out Joe the plumber is not licensed – a little underwriting could have avoided all of this.

After yesterday’s unprecedented 926 point jump in the DJIA, today the U.S. followed the lead of Germany, France and the UK in announcing that our country will invest in American banks and thrifts. Germany will invest 3.3% of its Gross Domestic Product(GDP). while the UK will invest 2.6% of its GDP, France 2.1%, and the U.S. will invest 1.8% of our GDP.

Will this start credit flowing again? All of these countries that are investing in lending institutions have added a caveat that this new money must be used for new loans not hoarded. 

The market for stock futures is leaping forward. This certainly shows that many investors feel that this injection of billions will give business a needed jolt. 

The success of this program may well  be measured in the spread between LIBOR and the expected rate of Fed funds over a period. In order to be considered a success we need to see 3-month dollar LIBOR move decisively lower – we should consider a sustained move below 100 basis points as a successful outcome despite the long-term spread of 12 basis points in periods of normal credit availability.

Oil futures today were down to $81 per barrel as consumption dropped close to 10%.

These are all very positive joint moves. we are surely in a global economy.

WHEN THE 1989 EARTHQUAKE STRUCK SAN FRANCISCO, I WAS BUILDING FOUR 20+ STORY BUILDINGS IN THE FILMORE NEIGHBORHOOD. WE HAD NO EARTHQUAKE INSURANCE FOR THIS  $200 MILLION CONSTRUCTION JOB. MY FIRST THOUGHT WAS HOW MUCH OF THESE BUILDINGS WERE STILL STANDING? I DROVE TO THE SITE IMAGINING  VARIOUS SCENARIOS OF MY CERTAIN FINANCIAL DISASTER.   TO MY AMAZEMENT ALL WERE STILL STANDING. THE ONLY DAMAGE WAS TO PERSONAL PROPERTY THROWN AROUND BY THE SHAKING OF THE BUILDINGS.

OVER THIS PAST WEEKEND, I AWAITED THE MONDAY MORNING  OPENING OF THE STOCK MARKET WITH THE SAME TREPIDATION I FELT WHEN I WAS DRIVING TO THE FILMORE SITE. THE THE DOW-JONES INDEX(DJI) HAD DROPPED 2000 POINTS IN ONE WEEK. ONE FRIDAY IT HAD DIPPED BELOW 8,000. 

THIS MORNING I FELT LIKE I DID WHEN I REALIZED ALL THE FILMORE BUILDINGS WERE STILL STANDING. THE DJI HAS SWIFTLY RISEN TO OVER 9,000. I SURE LOOKS LIKE  WE ARE AT THE DAWNING OF THE RETURN  OF FINANCIAL STABILITY.  WE ALL THANK THOSE FINANCIAL OFFICIALS WHO HAVE WORKED TIRELESS TO STOP THIS WORLD WIDE  FINANCIAL CATASTROPHE FROM ADVANCING FURTHER.

WHEN THE LENDING INSTITUTIONS OPEN TOMORROW, WE HAVE GREAT EXPECTATIONS THAT THESE  SAME LENDING INSTITUTIONS WILL JUSTIFY THESE HUGE INVESTMENTS IN THEM BY RETURNING TO THEIR CLASSIC ROLES OF BEING LENDERS OF MUCH NEEDED CAPITAL.   

REJOICE!  WE CAN BELIEVE THAT HAPPY DAYS WILL SOON BE HERE AGAIN !!

Let’s begin with this article released today by the Associated Press:

WASHINGTON (AP) — Pending home sales rose 7.4 percent from July to August, an unexpected piece of positive news for the battered housing market.

The National Association of Realtors said Wednesday that its seasonally adjusted index of pending sales for existing homes rose to 93.4 from an upwardly revised July reading of 87. The reading was the highest since June 2007.

Home sales are considered pending when the seller has accepted an offer, but the deal has not closed. Typically there is a one- to two-month lag before a sale is completed.

Wall Street economists surveyed by Thomson/IFR had predicted the index would fall to 84.9.

The index, which sunk to a record low of 83 in March, stood at 85.8 in August 2007.

Sales are picking up in places that have seen the most severe declines in prices — including Arizona, California, Florida and Nevada, as well as Rhode Island and the Washington area, said Lawrence Yun, the trade group’s chief economist. Still, Mr. Yun did not expect home prices to rebound until next year and only expected a modest gain of 2 to 3 percent in 2009.

A major unknown is how the worldwide financial crisis and economic slump will affect the housing market.

Despite numerous efforts by the Federal Reserve to encourage banks to lend more, lenders have kept tight reins on mortgage lending, and average rates on 30-year mortgages have remained over 6 percent for most of the year.

The latest effort by the central bank came Wednesday, when the Fed and six other major central banks around the world slashed interest rates Wednesday in an attempt to prevent a mushrooming financial crisis from becoming a global economic meltdown.

We all know that the demand for housing has not diminished, but,in spite of this demand. the would be buyers have not pulled the trigger to buy. Some waiting for the prices to reach their lowest point and many others could not qualify for the mortgage they would need.  

Today the  Dow-Jones Index(DJI) almost dropped close to  9,000. A year ago. the DJI was over 14,600.  Imagine the effect on 401(k)’s!!! Many of these stocks may never come back. Look at Merrill-Lynch, Bear-Stearn, Lehman Brothers, Countrywide Financial. etc.

Although real estate values are cyclical, remember the cycles in each market are different. All real estate values have come back and increased over former values. . The big question- can the owner hang on until the upsweep restores their values?

I am an optimist- have to be to be a developer. We are closer than we think to the turning point in our industry. The foregoing story shows inventories have been reducing at a greater rate than anticipated. Now  the lending institutions must to get out of their closets and return to the business they are chartered for: lending your deposits!!!  We have an unmet need, then with reasonable mortgages available,  we will have buyers empowered to make purchases. We can return to normalcy quicker than you think!!!

Keep the faith

Our caveman, Ike, was having a rough time. His kin folks were constantly complaining of their damp, cold, and windy cave. Many nights while they slept, their food was stolen. They were always coughing and sneezing. and were always at each others throats. Daily fights were routine. Finally, Ike found a new cave that faced in a different direction and had a small mouth. Ike then found a large rock that served as a door for their new home. Ike created real estate.  He created a living environment with qualities not found in nature, such as warmth and security. He successfully combined land with a “cave door” to meet the unmet needs of his kin folks. Real estate is a manufactured product with a time dimension ( cave per moon, hotel per night, apartment per month, office per year) TO COMBINE SOCIETY’S NEEDS WITH LAND A NATURAL RESOURCE.

The first job of the developer is to find an unmet need.  Then to combine the four components of real estate development: land, capital, users,and  knowledge to develop a successful development. What is the developer’s job? To supply the knowledge and secure the other three components!

Does the developer possess the the total human wisdom of development? Hardly!!! You can see many developments in your community that give you this answer. The developer is merely the coordinator of the development team. The development team has the knowledge. Who are the team members?

Depending on the complexity of your development, the team may include an accountant, advertising agency, appraiser, architect, attorney, city planner, civil engineer, construction lender, electrical engineer, estimator, general contractor, graphic designer, insurance agent, investor, landscape architect, leasing agent, market research firm, management company, mechanical engineer, mortgage broker, permanent lender, real estate broker, soils engineer, structural engineer, tax expert, title company, and traffic engineer.

The development business is fraught with risk. The two biggest risks are:    1. construction risk-can the development be built on budget and on schedule?

2. real estate risk- will the development be rented or sold at the projected prices?    

The developer’s job is to reduce these risks by transferring the risks to others.  How? The construction risk can be transferred to a general contractor with the proper contract. The real estate risk by pre-leasing or pre-sales.

 The developer must constantly identify and examine each assumption. If you are developing a rental development(i.e. apartments, offices, retail, etc.) what do you have to know? Is there an unmet need? What will show an unmet need? A market study ! What are market rents, vacancies, operating expenses? This is your first job!! Later, I will show you where to obtain the facts for these assumptions. Control of these variables is called risk management. This constant refining of these assumptions is to convert as much speculation to fact. This will also provide some tolerance for uncontrollable surprises. Only be using a conservative attitude for determining gross income, vacancies, operating expenses, and the cost of capital can we start to determine the feasibility of your development.  Risk management is the primary objective of market research, of contract negotiation, and of the strategic positioning of your development. Now is this development feasible? Only if the development shows a profit after a conservative approach, can you raise the necessary capital!!!

What do you think of the foregoing Only with feedback can tyhis be helpful.

BRIGHT SPOT-sign of times

Yesterday, the NY Times wrote about the great demand for apartments in New Jersey. This may mean that this is also true in many areas of our country. Why not look?

The organized campaigns showering hundreds of thousands of e-mails and phone calls on members of Congress to counter a wave of calls and e-mails that, before Monday’s vote, was overwhelmingly opposed to a bailout did the job.

 Today, victory  is ours. President Bush signed into law the Emergency Economic Stabilization Act.( the Bail Out Bill). The vote in the House was 263 for and 171 against.  23 Republicans and 32 Democrats switched their votes.

Now we must be vigilant in demanding that this law be effectice  as soon as possible. The intent of the law is clear-to provide financial stability to financial institutions. Put them back in the business of making loans. We all seek the same goal :by providing stability to financial markets, all markets will become stable. 

WE ARE INDEBTED TO THOSE FEDERAL OFFICIALS, BOTH ELECTED AND APPOINTED, FOR THEIR INEXHAUSTIBLE  DETERMINATION TO MAKE THIS FIRST STEP TO RECOVERY A REALITY.

The Washington Post said that an analysis of the no votes showed that   many of members of Congress who voted against this Economic Recovery Act where in tight races.

What can we do NOW to reverse the downward trend of real estate values?

This will be our next subject! any suggestions will be appreciated!!!