ESRT- Empire State Realty Trust

[Castanza]

Armed with a modest checkbook but a big pulpit, Jonathan Litt is going after Big Office. Can he prevail?

 

https://therealdeal.com/2020/08/19/the-littmus-test-veteran-activist-investor-on-his-office-shorting-strategy/?utm_source=internal&utm_medium=widget&utm_campaign=feature_posts

 

Anyway you can sum up some of the details? Locked behind a paywall.

[Gregmal]

Litt is basically the go to mouthpiece for anyone looking to write a doom and gloom, NYC is screwed, article. His thesis is twice posted on here. Basically that NYC office demand will be nonexistent til at least 2025 and all the players are doomed, especially ESRT since their buildings are "old". He has yet to, at least that Ive seen, give any mention on what these should be trading for or valued at, and has conveniently left out mentioning the extensive facelifts/renovations ESRT spent the better part of the last decade on. BG seems to know more about him than I do, but the opinion seems the same. A bit of a clown, more promotional than substance based.

[fareastwarriors]

Armed with a modest checkbook but a big pulpit, Jonathan Litt is going after Big Office. Can he prevail?

 

https://therealdeal.com/2020/08/19/the-littmus-test-veteran-activist-investor-on-his-office-shorting-strategy/?utm_source=internal&utm_medium=widget&utm_campaign=feature_posts

 

Anyway you can sum up some of the details? Locked behind a paywall.

 

 

 

Armed with a modest checkbook but a big pulpit, Jonathan Litt is going after Big Office. Can he prevail?

The activist investor looks to capitalize on the pandemic by taking on REITs

TRD NATIONAL TRD ISSUE /

August 19, 2020 12:15 PM

By E.B. Solomont

 

Jonathan Litt of Land & Buildings (Getty Images/iStock)

The morning of July 20 was dry and sunny, perfect for taking in the grand metropolis of New York from its most celebrated vantage point.

After plowing $165 million into an extensive renovation of the Empire State Building’s observatory, Empire State Realty Trust had been forced by Covid to close it in March. With the city now coming back to life, the landlord had a lot riding on the reopening of the attraction, which pulled in $125 million last year.

But shortly after 10 a.m., photographers arrived at the tower and captured an empty lobby, souvenir shops undisturbed by tourists and just one other group making its way to the 86th-floor observation deck.

The photographers had been dispatched by Jonathan Litt, an activist investor who runs hedge fund Land & Buildings. “Opening day was a bust,” Litt tweeted a day later, sharing a slick slideshow with the photos set to music. “L&B photographers had the place to themselves.”

The move was classic Litt, who’s known for taking REITs to task with both granular financials and an activist’s bullhorn. With just $500 million in assets under management, Land & Buildings is tiny by hedge fund standards. But Litt, 56, has managed to become a prime foil for REIT bosses, waging campaigns to overhaul companies from retail investor Taubman Centers to developer Forest City Realty Trust to hospitality giant MGM Resorts. Make some noise and a tidy profit while you’re at it — that’s the Litt way.

“The activism is a strategy to buy discounted real estate, and have a strategy for unlocking value,” Litt said during an August interview with The Real Deal.

Since 2008, Land & Buildings has engaged in 30 campaigns, producing average returns of around 25 percent, the company said. If that seems high, that’s because it is — hedge funds returned 10 percent on average last year, according to research firm eVestment, with activist firms reporting returns just under 17 percent. On at least one deal, Land & Buildings claims it did even better: It pushed Liberty Property Trust to divest its office holdings and then sell itself  to warehouse giant Prologis for $13 billion, which Litt said generated returns of 42 percent in just 15 months.

Now, with the pandemic asking existential questions of the city’s office market, Litt is busy building another war chest.

In March, his firm said it will deploy as much money as it can raise to target underperforming companies. When Morgan Stanley CEO James Gorman said in April that the pandemic proved the bank’s ability to operate with “no footprint,” Litt turned to his team and said, “That’s an issue.” BlackRock’s Larry Fink further fueled that instinct a few days later, saying  “I don’t think any company’s going to go back to 100 percent of the workforce in the office.”

In May, the Wall Street Journal reported that Litt was shorting New York City office stocks, including Vornado Realty Trust, SL Green Realty and Empire State Realty Trust. In a six-page white paper, Litt warned of an “existential hurricane” making its way to the market and said ESRT would “bear the full brunt” of it.

Stats from the first half of the year seem to bear this out.  Manhattan office leasing activity in the second quarter was the slowest since the Great Recession of 2009, Colliers data shows, with just under 3.2 million square feet of deals signed. And then there’s the WFH dilemma for landlords: What will remote work mean for long-term space demand and the value of office holdings in prime markets?

“The truth lies somewhere in between Armageddon and all green lights,” Litt tweeted on June 25. “It will be a painful re-adjustment.”

Or forever hold your silence

An activist investor is a particular financial animal, buying into underperforming companies and creating corporate discord to replace leadership and drive up share price. Since the 1980s, the likes of Carl Icahn, Kirk Kerkorian and Barry Rosenstein — then known by the far less flattering term “corporate raiders” — have made fortunes through the approach. But it’s only recently that this community has turned its attention to REITs.

Litt had an inside track. He rose through the ranks as a REIT analyst at Salomon Brothers, Paine Webber and Citigroup, where he was ranked a top analyst by Institutional Investor for several years running. In the 1990s, he met Vornado founder Steve Roth, just after Roth acquired a controlling interest in bankrupt retailer Alexander’s in a real estate play hailed as one of the most lucrative of its era.

 

“Watching him do that over and over again has been enormously valuable,” Litt told Bloomberg in June.

Even as an analyst, Litt displayed an activist streak.

In 2002, he became convinced that Peter Munk, the mining magnate who chaired Trizec Properties, was lining his own pockets. During an analyst call that summer, he told Munk to turn on the TV in time to see WorldCom executives being arrested for accounting fraud. He threatened to report Munk to Eliot Spitzer, the then-attorney general of New York who had styled himself the “Sheriff of Wall Street.”

In 2008, Litt went into business for himself with $50 million of seed money from his former Citigroup bosses. Among his first targets was BRE Properties, a San Francisco apartment REIT whose shares were trading at a big discount despite an enviable portfolio.

Litt pushed for a sale (even bidding $4 billion himself) before Essex Property Trust swooped in to buy BRE for $4.3 billion. When Essex’s shares surged, Land & Buildings earned 40 percent on its bet, according to Forbes.

“He has always represented the investors very effectively,” Sam Zell, the billionaire founder of Equity Group Investments and one of Litt’s mentors, told the Journal in 2014. “That’s what this industry needs, to hold people’s feet to the fire.”

A source who worked closely with Litt for years disputed the idea that he’s got the Midas touch.

“Excellent analysts rarely make great money managers,” the source said.

Litt’s big break came in 2015. He went after MGM Resorts, urging the gaming company to spin off its valuable Las Vegas real estate into a REIT. After a public spat, MGM formed MGM Growth Properties. In 2018, the entity sold the Bellagio to the Blackstone Group for $4.25 billion; last year, a JV including Blackstone bought the real estate of the MGM Grand and Mandalay Bay for $4.6 billion.

In 2016, Litt zeroed in on Forest City Realty Trust, an investment firm founded by the dynastic Ratner family. Litt saw the firm as a morass of debt, mismanagement and mismatched assets, and pushed for a sale. Instead, the REIT replaced its board and Litt sold his shares. But other activists picked up the fight, and in 2018 Brookfield Asset Management bought the company for $11.4 billion.

“Clearly, the involvement of multiple activist investors contributed significantly to the ultimate sale of the company,” a former executive at Forest City said. “But Jon was the first and the loudest.”

Inside baseball

When Covid hit, the doomsday prophets were ready.

Legendary activist investor Carl Icahn revealed in mid-March that he had bet on credit-default swaps on assets backing mortgages for malls and corporate offices.

Noting that it was his “biggest position” by far, Icahn likened those mortgages to “selling insurance to someone who’s going to go to the electric chair in a couple of months.”

In July, Starwood Capital founder Barry Sternlicht predicted office buildings could lose 40 percent of their value and a third of hotels could go bankrupt.

In New York, the worst of the pandemic coincided with proxy season, the period between April and June when most public companies hold annual meetings. Mid-March is when investors typically decide whether to engage in a proxy fight or stand down.

Land & Buildings faced one such decision. In February, it  acquired 1 percent of American Homes 4 Rent, a single-family rental REIT, and put forward a board candidate. But on March 23, Land & Buildings withdrew its nomination.

A cynic might say Litt knew better than to start a fight he couldn’t win. Yoel Kranz, a partner at Goodwin Procter who has defended REITs against Litt, called it a “gentlemanly” move.

Litt had previously profited off of the company.  In 2015, he had bought shares in American Residential Properties, when the stock was stuck at around $17.

“It was pretty clear that we needed to either do a JV with somebody or an out-and-out sale,” recalled ARP founder Stephen Schmitz. Soon after Litt took a position, ARP struck a deal to be acquired by American Homes 4 Rent for $1.5 billion.

“He knew our stock was undervalued,” Schmitz said. “When we sold, he made out like a bandit.”

In a 2013 affidavit filed as part of divorce proceedings, Litt reported total assets of $13.9 million. Property records show he owned a $3 million home in Greenwich, Connecticut, which Zillow shows hit the market last year asking $5.95 million.

Schmitz described dealing with Litt as amicable, which is more than can be said about Litt’s battle with Taubman Centers.

Litt lost a proxy battle in 2017, won a board seat in 2018 and threatened a third proxy fight last year, when he said CEO Bobby Taubman bore “most of the responsibility for Taubman’s terrible track record.”

What Litt accomplished is up for debate. Some say he distracted Taubman and cost the mall operator millions. (In its latest annual report, Taubman disclosed $44.3 million in expenses related to shareholder activism between 2017 and 2019.) The stock currently stands near $38 per share, about where it was last year.

“Big picture, nothing changed,” said Alexander Goldfarb, a REIT analyst at Piper Sandler.

The source who worked with Litt said the former star analyst’s network meant that he was heard, but it’s unclear what impact he had.

“When he started pounding the table about doing x, y and z, they’d sometimes laugh and say, ‘You’re at best a 0.5 percent investor,’” the source recalled. “’You can’t do anything.’”

Litt hopes his latest battle with Big Office will be more consequential. New York-heavy office REITs have tumbled since the start of the year. As of Aug. 10, shares of ESRT were down 49.2 percent, SL Green and Vornado were down 40 percent, Columbia Property Trust 37.9 percent and Boston Properties down 31.4 percent.

“You can’t sugar coat how difficult [the] NYC office market will be in [the] coming years,” Litt tweeted on June 30. By July 21, he described the office market in “free fall.”

Though the market got a boost in early August, when Vornado announced Facebook had completed a much-speculated-about 730,000-square-foot lease at the Farley Building, the euphoria is likely to be fleeting. Facebook CEO Mark Zuckerberg has said half of his employees are likely to be remote within a decade, while Google, which has spent over $4 billion buying up prime space in Chelsea and hundreds of millions of dollars more on leases in Hudson Square, is letting its 200,000 employees work remotely until July 2021 and has hinted at greater openness to distributed work.

Moody’s Analytics predicts the value of U.S. office buildings will drop 17.2 percent in 2020.

“Losing one tenant that occupies 30 percent of your space might have a very big multiplier effect on your income that puts you underwater really quickly,” Moody’s economist Victor Calanog told the Journal this month.

But not all are as bearish. In a July 24 note, Michael Lewis of SunTrust Robinson Humphrey said it remains to be seen if office reductions become the norm “rather than the exception.” Piper Sandler’s Goldfarb said companies’ need to de-densify will offset any permanent shifts to remote work.

“When you put it all together, New York office will figure its way out,” Goldfarb said.

“They should be killing it”

When Litt spoke to TRD in early August over Zoom, he was in the thick of earnings-call season, estimating that he had listened to between 50 and 60 over three weeks.

“This was an extremely important earnings season, outside of, really, 2009,” he said, shoveling egg into his mouth between answers. “You’ve got to be on your game.”

In the early days of Covid, Litt said, his team put together a number of sector-specific plays. It first went after data center REITs and cell tower and single-family rental stocks. Litt said he’ll be looking at high-impact opportunities in hotels, office, gaming and senior housing REITs “as we’re starting to get a sense of how they’re playing out.”

As of June 30, Land & Buildings had equity investments in 22 REITs totaling $408.3 million, regulatory filings show. It had total gross investments of $772.1 million, according to its March 27 form ADV, which shows both long and short positions.

The hedge fund has three undisclosed activist positions, but only one public campaign being waged, against American Homes 4 Rent, which reported a 31.5 percent drop in net income in the second quarter.

“Their peers are killing it, and they should be killing it,” said Litt.

“What the pandemic will lay bare are the underperformers within peer groups,” said attorney Andrew Freedman, a partner at Olshan Frome Wolosky who has worked with Litt.

In 2019, there were a total of 10 activist campaigns against U.S. REITs, according to research firm Activist Insight. By July, Kranz, the attorney, was tracking 20 activist campaigns, 11 of which launched since April.

Much of the increased activity is coming from smaller players like Litt, who make up for what they lack in financial muscle with showmanship and media savvy.

Litt has a penchant for using white papers, videos and slick websites — such as SaveTaubman2020.com — to push his views. Litt often turns to Sloane & Company, a communications firm specializing in activist investing work. Its slogan: “We know what it takes to win.” (Subtlety is not Litt’s thing; as an analyst, he once sent red gumball machines to 700 clients and colleagues to warn them the commercial real estate bubble was going to pop.) He also engages a phalanx of photographers to snap revealing pictures at casinos and malls. This spring, while cycling the hills of Connecticut, he personally catalogued an influx of out-of-state license plates, in support of his call that suburban housing is hot.

“We’ve been riding here for 20 years, and it was a real noticeable uptick to see all these New York plates hanging out in Connecticut,” he told Bloomberg.

Paul Adornato, who worked for Litt at Paine Webber, called his former boss a “media master.”

“That’s how the game is won,” he said.

The Forest City executive said Litt was known internally as a “gadfly.”

“He’s an activist who’s willing to go very public, very early in the process,” the executive said. “He never really had a big position in our stock, and by the time the other, heavier-weight activists got involved, he was largely gone. So whether he played a role in raising the flag and getting people’s attention … I don’t know.”

“Activists aren’t coming in and buying 20 percent stakes,” Kranz said. “They don’t have to do that. Your weapons here are not absolute control by owning a lot of shares. Your weapons are your ability to disseminate information.”

 

[Gregmal]

Of course, crime could change everything, but his thesis is guilty of making the same mistake that plenty of folks made during the shutdowns; IE "OMG the numbers are terrible! Theyre the worst since (insert GFC, GD, etc)!" Duh. Obviously when things are shutdown, there will be little activity and the numbers will be bad. NYC is still more or less shutdown. It was the height of hilarity to see this fellow go to Empire State Building in July and act surprised it was at like 10-20% occupancy. Especially in NYC, office and retail/entertainment are inextricably intertwined. One won't really get its mojo back until the other does, if that makes sense.

[Castanza]

Armed with a modest checkbook but a big pulpit, Jonathan Litt is going after Big Office. Can he prevail?

 

https://therealdeal.com/2020/08/19/the-littmus-test-veteran-activist-investor-on-his-office-shorting-strategy/?utm_source=internal&utm_medium=widget&utm_campaign=feature_posts

 

Anyway you can sum up some of the details? Locked behind a paywall.

 

 

Thx

[Castanza]

Of course, crime could change everything, but his thesis is guilty of making the same mistake that plenty of folks made during the shutdowns; IE "OMG the numbers are terrible! Theyre the worst since (insert GFC, GD, etc)!" Duh. Obviously when things are shutdown, there will be little activity and the numbers will be bad. NYC is still more or less shutdown. It was the height of hilarity to see this fellow go to Empire State Building in July and act surprised it was at like 10-20% occupancy. Especially in NYC, office and retail/entertainment are inextricably intertwined. One won't really get its mojo back until the other does, if that makes sense.

 

The violence is definitely what is making me hesitant. Personally I’m waiting till post election to see what the environment looks like. It’s the only logical catalyst at this point. Outside of the violence it’s difficult to see NYC not being a commerce center. That being said, my company opted to close many offices so who knows...

[Foreign Tuffett]

Of course, crime could change everything, but his thesis is guilty of making the same mistake that plenty of folks made during the shutdowns; IE "OMG the numbers are terrible! Theyre the worst since (insert GFC, GD, etc)!" Duh. Obviously when things are shutdown, there will be little activity and the numbers will be bad. NYC is still more or less shutdown. It was the height of hilarity to see this fellow go to Empire State Building in July and act surprised it was at like 10-20% occupancy. Especially in NYC, office and retail/entertainment are inextricably intertwined. One won't really get its mojo back until the other does, if that makes sense.

 

This is the same fund that took lots of pictures of crowds in Taubman's malls in 2017 in an attempt to demonstrate their continued relevance and popularity. The tactic is just as meaningless now as it was three years ago.

 

One could have gone to the Kmart in Guam most anytime in the last five years and taken lots of pictures of crowded aisles and parking lots. What would that have said about the health of Kmart in general? Nothing, since Guam is, per the WSJ "The Last Place on Earth Where Everyone Still Loves Kmart"

[LearningMachine]

Has anyone figured out their reason for history of dilutions?

 

They diluted their shares and Operating Partnership units 7.4%, 4.1%, 4.8%, and 4.1% in 2017, 2016, 2015, and 2014, respectively. 

 

9.9% of it was due to Qatar Investment Authority purchasing newly issued shares in 2016.  Looks like that dilution got spread out over 2016 and 2017 because I am calculating based on weighted average shares and Operating Partnership Units for each year, and the Qatar investment was probably near end of 2016.

 

Was the rest all management printing Operating Partnership Units and shares for themselves, or was any of it for acquisitions or other similar investments I didn't notice?

[LearningMachine]

I'd like to get some help in calculating the minimum valuation here.

 

For the calculation, lets assume this scenario: NYC office vacancy rate goes up to 30%. Some overly leveraged owners can't pay mortgage and property taxes with 70% occupancy, and let the properties be foreclosed.  Lets say market realizes at the time that 30% vacancy is here to stay and best use for some of the buildings is to convert to residential.  Lets assume that by then some of the higher income folks have moved out to suburbs/exurbs or other zero-income tax states.  Lets assume, some folks who can't work from home and like the amenities, e.g. folks in the dating pool and folks in lower income jobs requiring physical presence, would still like to live in the city.  What would be the income level of these folks?  What is the maximum rent per apartment that these folks would be willing to pay?  What does that rent translate into rent PSF?

 

Based on the above, what PSF would a builder be willing to pay to convert some of these buildings to multifamily/condos and still make a profit?  Would that salvage value be $200 PSF or $100 PSF?

 

If salvage value is $200 PSF, I get fair value per share of $4.54 per share as follows:

 

• Observatory NOI = $65 million. Observatory value at 6.5% cap rate = $1 billion
  
• 10 million sqft at $200 PSF = $2 billion
  
• Total assets = $3 billion
  
• Net Debt = $2.5 - 0.87=$1.63 billion
  
• 2019 and 2014 Preferred units = $83.3 million
  
• Equity = 3-1.63 -.0833=1.287 billion
  
• Fair value per share = 1,287,000,000/283,384,000 = 4.54

 

If salvage value is $100 PSF, I get $1 billion for 10 million sqft.  Adding $1 billion for observatory brings total asset value to $2 billion.  Subtracting net debt and preferred shares, brings equity value to $287 million, i.e. $1.01 per share

 

[Gregmal]

I missed your second to last post so I'll try to touch on that first, although I dont have a precise answer as I only started looking more thoroughly at this recently. But my understanding is that the OP units are largely tied to comp which can be converted into A shares. They have not done many acquisitions and most of the previous expenditures since going public have been on renovating properties.

 

I'd like to get some help in calculating the minimum valuation here.

 

For the calculation, lets assume this scenario: NYC office vacancy rate goes up to 30%. Some overly leveraged owners can't pay mortgage and property taxes with 70% occupancy, and let the properties be foreclosed.  Lets say market realizes at the time that 30% vacancy is here to stay and best use for some of the buildings is to convert to residential.  Lets assume that by then some of the higher income folks have moved out to suburbs/exurbs or other zero-income tax states.  Lets assume, some folks who can't work from home and like the amenities, e.g. folks in the dating pool and folks in lower income jobs requiring physical presence, would still like to live in the city.  What would be the income level of these folks?  What is the maximum rent per apartment that these folks would be willing to pay?  What does that rent translate into rent PSF?

 

Based on the above, what PSF would a builder be willing to pay to convert some of these buildings to multifamily/condos and still make a profit?  Would that salvage value be $200 PSF or $100 PSF?

 

If salvage value is $200 PSF, I get fair value per share of $4.54 per share as follows:

 

• Observatory NOI = $65 million. Observatory value at 6.5% cap rate = $1 billion
  
• 10 million sqft at $200 PSF = $2 billion
  
• Total assets = $3 billion
  
• Net Debt = $2.5 - 0.87=$1.63 billion
  
• 2019 and 2014 Preferred units = $83.3 million
  
• Equity = 3-1.63 -.0833=1.287 billion
  
• Fair value per share = 1,287,000,000/283,384,000 = 4.54

 

If salvage value is $100 PSF, I get $1 billion for 10 million sqft.  Adding $1 billion for observatory brings total asset value to $2 billion.  Subtracting net debt and preferred shares, brings equity value to $287 million, i.e. $1.01 per share

 

 

Any sort of PSF model obviously requires assumptions. The above seem draconian but obviously possible. What little I'd rebut that with is that pricing does not always need to follow occupancy(although often it does) and that market value is only important if you are a forced seller. Just as some of these traded at massive discounts to private market for a long time(and possibly still do) if you are the predator and not the prey during the downswing, you may be priced different than the worst case PSF assumptions. For instance, in the other thread I mentioned suburban office. Bergen county occupancy rates for the past 5 years have barely been able to crack 80%. Yet you've consistently seen modest 1-2% increases in PSF during that time. A lot depends on(to steal a line from the Big Short), how motivated the sellers are.

[BG2008]

I'd like to get some help in calculating the minimum valuation here.

 

For the calculation, lets assume this scenario: NYC office vacancy rate goes up to 30%. Some overly leveraged owners can't pay mortgage and property taxes with 70% occupancy, and let the properties be foreclosed.  Lets say market realizes at the time that 30% vacancy is here to stay and best use for some of the buildings is to convert to residential.  Lets assume that by then some of the higher income folks have moved out to suburbs/exurbs or other zero-income tax states.  Lets assume, some folks who can't work from home and like the amenities, e.g. folks in the dating pool and folks in lower income jobs requiring physical presence, would still like to live in the city.  What would be the income level of these folks?  What is the maximum rent per apartment that these folks would be willing to pay?  What does that rent translate into rent PSF?

 

Based on the above, what PSF would a builder be willing to pay to convert some of these buildings to multifamily/condos and still make a profit?  Would that salvage value be $200 PSF or $100 PSF?

 

If salvage value is $200 PSF, I get fair value per share of $4.54 per share as follows:

 

• Observatory NOI = $65 million. Observatory value at 6.5% cap rate = $1 billion
  
• 10 million sqft at $200 PSF = $2 billion
  
• Total assets = $3 billion
  
• Net Debt = $2.5 - 0.87=$1.63 billion
  
• 2019 and 2014 Preferred units = $83.3 million
  
• Equity = 3-1.63 -.0833=1.287 billion
  
• Fair value per share = 1,287,000,000/283,384,000 = 4.54

 

If salvage value is $100 PSF, I get $1 billion for 10 million sqft.  Adding $1 billion for observatory brings total asset value to $2 billion.  Subtracting net debt and preferred shares, brings equity value to $287 million, i.e. $1.01 per share

 

$100/sqft for salvage value.  That's probably where I make a snide comment of some sort. 

[LearningMachine]

$100/sqft for salvage value.  That's probably where I make a snide comment of some sort.

 

Good to hear you didn't think of making a snide comment at $200 PSF :-).

 

In the worst case scenario, where some of the buildings have to be converted to residential, are you then willing to concede that salvage value is between $100 and $200 PSF?

 

I know if I had to convert a building to rental to charge $2000 per apartment to medium-income folks, I'd be willing to pay only about $50 PSF to be able to make a profit after considering conversion costs, etc.

 

I understand your reaction is probably coming from one of the following:

[*]thinking that there is no way apartment rent could drop to $2000 per unit in NYC

[*]from thinking that there is no way these buildings will get converted

[*]no way PSF could drop that low when air rights go higher than that in Pre-Covid times

 

Which # above is it or is it something else?  Just trying to learn from other perspectives.

 

[BG2008]

$100/sqft for salvage value.  That's probably where I make a snide comment of some sort.

 

Good to hear you didn't think of making a snide comment at $200 PSF :-).

 

In the worst case scenario, where some of the buildings have to be converted to residential, are you then willing to concede that salvage value is between $100 and $200 PSF?

 

I know if I had to convert a building to rental to charge $2000 per apartment to medium-income folks, I'd be willing to pay only about $50 PSF to be able to make a profit after considering conversion costs, etc.

 

I understand your reaction is probably coming from one of the following:

[*]thinking that there is no way apartment rent could drop to $2000 per unit in NYC

[*]from thinking that there is no way these buildings will get converted

[*]no way PSF could drop that low when air rights go higher than that in Pre-Covid times

 

Which # above is it or is it something else?  Just trying to learn from other perspectives.

 

I think the dirt and the bones (building, envelope etc) is worth at least $300/400 per sqft.  You can figure that the conversion cost will be $300-700/sqft depending on how high end you want to go.  You can't buy raw land in Manhattan for that kind of price.  Obviously, how quickly you can retro-fit these buildings makes a huge difference.  Part of the risk in developing NYC residential is that if you are right next to another building, you run the risk of damaging their foundation which increases risk of lawsuits, delays etc.  With an office conversion, you take that foundation crack risk away.  To the extent that you are mostly retro-fitting the insides, it really reduces risk.  But NYC permitting is NYC permitting, there is always something that goes wrong. 

 

1. For where PGRE's properties are located at, I can't imagine rent dropping to $2,500 or even $3,000 for a 1,000 sqft apartment.  That's Queens territory. 

2. These building could get converted if the vacancy is high enough. I think that the older and more structurally obsolete buildings get converted.  The newer stuff like Hudson Yards will stay on the market. 

3.  Yeah, pretty much.  Or let's just call it a healthy "Margin of Safety"

 

The advantage of having a "shovel ready hole in the ground" versus an existing building is that a "hole in the ground" sometimes offers much greater flexibility in terms what you can build and much less carry cost.  There is a dire scenario where the office vacancy goes to 30% in the market and your portfolio is at 50% and you actually lose money. 

 

My high level 2 cents. 

 

I actually think that ESRT observation deck does have more risk. 

[pbi]

I think another counterpoint to the argument that PSF will get down that low is that ESRT's properties trade primarily in the Class Bish category, so any conversion activity which removes stock from the market should make what is remaining worth more (in theory). I've seen a couple of Colliers reports indicating that Class B vacancy rates are ~200+ basis points tighter than Class A so I'm wondering if this is a reflection of that.

 

Their assets are also irreplaceable in the sense that they can't be replicated by someone and then leased up at an equivalent price point. Current development costs don't allow the numbers to work. So I think the portfolio will maintain its value to those wanting to have a presence in Manhattan that aren't willing to (or can't) pay for Class A space. Of course this is all contingent on them wanting to be there in the first place. 

 

I haven't digested all of this, but it is an interesting read. https://edc.nyc/sites/default/files/filemanager/Resources/Studies/Commercial_Real_Estate_Competitiveness_Study.pdf

 

 

 

 

 

 

[Gregmal]

Semi interesting development.

 

https://seekingalpha.com/pr/17985926-empire-state-realty-trust-inc-announces-dividend-suspension-for-third-and-fourth-quarters-of

[thepupil]

Divvy elimination makes a lot of sense, particularly if/when global brands files and they lose their largest tenant, would cause manhattan portfolio occupancy to go down by 668K feet (9%, 6.5% of the whole portfolio) and considering the state of the observatory.

 

Global Brands has a market cap of $29mm and debt of $550mm if it’s the company I’m thinking of. $37mm of rent is material to them and I’d expect them to reject the lease in some time frame. Anyone have reason to believe that Global Brands doesn’t file?

 

I’d  look into it more but don’t own ESRT so I don’t really care.

 

[Gregmal]

Divvy elimination makes a lot of sense, particularly if/when global brands files and they lose their largest tenant, would cause manhattan portfolio occupancy to go down by 668K feet (9%, 6.5% of the whole portfolio) and considering the state of the observatory.

 

Global Brands has a market cap of $29mm and debt of $550mm if it’s the company I’m thinking of. $37mm of rent is material to them and I’d expect them to reject the lease in some time frame. Anyone have reason to believe that Global Brands doesn’t file?

 

I’d  look into it more but don’t own ESRT so I don’t really care.

 

Big part of the thesis here is management and capital allocation. Given the strength of balance sheet I would be quite pleased if they cut the dividend and upped the buyback here. It is interesting they didnt mention anything about buybacks or discontinuing that in the release.

 

Honestly, I own this, and dont care either about Global Brands. The night is still dark but the thesis involves seeing this through to the other side. The market is obviously pricing in tenants leaving and challenges with leasing/pricing going forward. But at the end of the day if you can't live without a tenant or simply cant replace one, this isn't going to be a good investment. I would think the most likely outcome is a renegotiated lease with Global Brands. But the trophy asset and management acumen is why we come to this party. Keep the ship afloat until you reach clearer skies and calmer waters. I do like the active management here. If anything, what goes on with Global Brands may impact what type of approach they take to the hinted acquisition strategy/team they talk about with the Ratner hire. If GB is a drag, or they cant favorably replace that....perhaps they take that into consideration in terms of what theyre looking to do with acquisitions. I am lukewarm on being an acquirer here, but ultimately feel they've earned the right to make these calls because they've been on the money previously, and also today as meeting the distribution threshold already gives them the option to retain capital for the next 6 months...good move.

[LearningMachine]

While folks here bought ESRT with their hard-earned dollars, the management has been busy helping themselves to free shares, even after the Covid situation.

 

My math adds up to about 1% of company stolen from shareholders so far in 2020 after the Covid situation, and I have not even added up all the shares they have taken for free in 2020.

 

Tony Malkin has been taking the most, with a total of 712,717 shares in 2020 alone after Covid, which at $6/share is $4,276,302.  I'm sure it was worse in 2019, and it will be worse when adding up for all of 2020.  I just don't understand how a glorified property manager could take so much from shareholders.  He also throws off shares to his hand picked directors who are approving his own share allocations.

 

Does Qatar Investment Authority not complain at all, or they are not aware this is going on?

 

https://www.sec.gov/cgi-bin/browse-edgar?action=getcompany&CIK=0001541401&type=&dateb=&owner=only&count=40&search_text=

 

[Gregmal]

While I'd certainly prefer they didnt issue shares like this, I also dont think SBC amounting to 1-2% is really all that out of the ordinary. While not all that material some of the NEOs have also taken paycuts, Malkin down to $1 for the time being. So again, if I ruled the world, yea, no way this flies. But given the Malkin's are de facto controlling owners of this thing, and given standard industry comp...it's a little bit of a stretch forming that conclusion, no? $4M in equity incentives and SBC compared to previous years(when adjustments are made for share price declines) seems in line. Historically its been about $8-10M total considerations. Which is similar to peers.

 

Do you own this and are just tired of management getting paid for - returns(which would 100% be me if I didnt just get into this post COVID; this has done nothing since going public), or do you have a different angle and/or some kind of short thesis? Thanks in advance.

[LearningMachine]

I started buying very recently in the last few days post-Covid as well, and bought some today also.  Just a tiny amount so far.  I think probability is reasonable that it will fall further.

 

For office building prices to fall down to salvage level for conversion to residential, I think we don't have to get to 100% remote work post-Covid.  I think just some companies choosing to give employees flexibility to work remotely some of the time can do it by taking long-term vacancy rate to 30%.

 

I posted above my calculation of $4.54 per share for $200 PSF salvage level and $1.01 per share for $100 PSF salvage level.  So, I was thinking of buying more as it hits those prices, but there is a possibility it won't hit those levels, and so, I was starting to get in a little early for that possibility.  However, I watched the recent management webcasts, and it feels so weird they feel no shame in printing shares for themselves while shareholders are not doing well - no-one even brings it up on the webcast.  Just not a sign of a shareholder-friendly management.  Sometimes, it can be a sign of management that might be willing to dilute more at low prices as well to save their jobs or to expand their empires.

 

[Gregmal]

Unfortunately I dont think their jobs will ever really be at risk. I would definitely be concerned if they start dumping their shares in large amounts. Overall IMO I think they've been decent capital allocators, so there is that too. But otherwise, I agree 100%. I would be losing my shit if I was a long term shareholder here, but again, thats everywhere, especially in real estate. You dont deserve $10M a year just for showing up to work at a REIT. Yet everyone at the $3B+ EV level earns at least that.

[Spekulatius]

While folks here bought ESRT with their hard-earned dollars, the management has been busy helping themselves to free shares, even after the Covid situation.

 

My math adds up to about 1% of company stolen from shareholders so far in 2020 after the Covid situation, and I have not even added up all the shares they have taken for free in 2020.

 

Tony Malkin has been taking the most, with a total of 712,717 shares in 2020 alone after Covid, which at $6/share is $4,276,302.  I'm sure it was worse in 2019, and it will be worse when adding up for all of 2020.  I just don't understand how a glorified property manager could take so much from shareholders.  He also throws off shares to his hand picked directors who are approving his own share allocations.

 

Does Qatar Investment Authority not complain at all, or they are not aware this is going on?

 

https://www.sec.gov/cgi-bin/browse-edgar?action=getcompany&CIK=0001541401&type=&dateb=&owner=only&count=40&search_text=

 

Learningmachine- thanks for bringing up the dilution, as it was it mentioned here before. A 1% management take on top of the regular cost of running the business is significant and needs to be taken into account when looking at the whole picture.

[LearningMachine]

Learningmachine- thanks for bringing up the dilution, as it was it mentioned here before. A 1% management take on top of the regular cost of running the business is significant and needs to be taken into account when looking at the whole picture.

 

Thanks Spekulatius.  If it was 1% management take of the operating income, that would have been fine.  Maybe we could stretch it to 1% of the rental income.  But, when we look at the whole year, it is probably almost 2% of the company itself every year.

 

Normally, I'd be looking for at least 2% reduction in shares on average every year, but here the management is taking away 2% of the company every year.  Over 30 years, what's left for the shareholders is only 0.98^30=54.5% of the company.  Sign of a management willing to take away from shareholders with no shame, and will probably do it in other instances also, e.g. in the name of buying other buildings now.

 

The other troublesome thing is management doesn't seem to have a big stake in the company even after all this printing somehow.  So, management won't be impacted that much by any dilution they might do to buy new buildings, to increase the EV further, to increase their share printing for themselves further.

[thepupil]

Learning machine, curious how you are getting to 2%. Are they really giving $35mm/year to Malkin and crew?

 

And are they all just straight up grants, not options?

 

Market cap with the OP units is $1.7B, right?

 

171mm shares own 60% of the OP units, = 285mm s/o

 

700K / 268mm = 0.25%

 

Am I missing something?

 

I see high comp in the proxy, but not quite that high.

[LearningMachine]

Learning machine, curious how you are getting to 2%. Are they really giving $35mm/year to Malkin and crew?

 

And are they all just straight up grants, not options?

 

Market cap with the OP units is $1.7B, right?

 

171mm shares own 60% of the OP units, = 285mm s/o

 

700K / 268mm = 0.25%

 

Am I missing something?

 

I see high comp in the proxy, but not quite that high.

 

Pupil, great questions.

 

Regarding Anthony Malkin's ownership interest I was going by the latest Form 4 SEC filing for him for transaction dated 3/19/2020.  The form mentioned he was being granted 350,631 LTIP Units, and that those will vest into Operating Partnership Units, and those are redeemable for Class A shares at price of $0 (meaning equivalent of straight grants but probably subject to some conditions that they themselves come up with).  For total Number of derivative Securities Beneficially Owned Following Reported Transaction(s) (Row 9), it mentions only 1,748,856 shares total Class A common shares.  I interpreted that to include all of Class A Common shares that all of Anthony Malkin's existing Operating Partnership Units can be redeemed for as well.  Source: https://www.sec.gov/Archives/edgar/data/1076484/000089924320009218/xslF345X03/doc4.xml.

 

As of June 30, 2020, ESRT's total diluted shares and operating partnership units are 283,384,000.  Source: Q2 2020 Earnings Supplement at http://investors.empirestaterealtytrust.com/QuarterlyResults.  I'm interpreting that number to include all common shares and Operating Partnership Units.

 

1,748,856 total derivative securities is 0.6% of 283,384,000. 

 

All that said, your question made me dig deeper, and I did find that the 2019 Annual Report, Page 6, does say that "[a]s of December 31, 2019, our named executive officers owned 11.8% of our common stock on a fully diluted basis (including shares of common stock and operating partnership units as to which AnthonyE. Malkin, our chief executive officer, disclaims beneficial ownership except to the extent of his pecuniary interest therein)."

 

While looking for that I also found the 2019 Annual Report, Page 7, talks about their intention to dilute using Operating Partnership Units to pursue acquisitions: "ability to offer operating partnership units in tax deferred acquisition transactions should give us significant flexibility in structuring and consummating acquisitions."

 

I'm wondering if they will dilute by printing operating partnership units for acquisitions given the statement above in the annual report, and indications in webcasts that they are looking to acquire?  Would love to hear your thoughts.

 

Pupil, your question about estimate of $35 million/year is probably a little bit too high but might not be too far off because last year Malkin alone got paid $11,145,499.  Source: https://aflcio.org/paywatch/ESRT

 

When I mentioned the 2% figure, I said "probably almost" above to indicate that I was extrapolating from the numbers I had added until then from the SEC filings.  For 2020, it adds up to 1,823,444 shares for what they have filed until 8/3/2020.  At the time, I was extrapolating that maybe they will get an equivalent number of shares for the remaining year.  At the time, I did a quick math that those shares will be worth $10.94 million at $6 per share.  And, then, I got lazy and just divided by the market cap of $1.03 billion to get about 1%, and then I got even more lazy and doubled it to extrapolate for the full year to 2%, hoping that "probably almost" will save me.  However, I shouldn't have gotten lazy, and done the full due-diligence.  So, now, I went back and can confirm that 1,823,444 shares adds up to only 0.64% of 283,384,000 diluted shares and operating partnership units, and given their 2019 history, hoping they won't print more for themselves later this year.